NEOLIBERALISM, SOCIAL FRAGMENTATION AND WORLDWIDE DEPRESSIONroehner/triumph.pdf · Ami, entends-tu...

NEOLIBERALISM,

SOCIAL FRAGMENTATION

AND

WORLDWIDE DEPRESSION

Bertrand M. Roehner

Institute for Theoretical and High Energy Physics, University of Paris 6

Working Report

Neoliberalism,

Social Fragmentation

and

Worldwide Depression

Bertrand M. Roehner

Institute for Theoretical and High Energy Physics, University of Paris 6

Laboratoire de Physique Theorique et HautesEnergies, UPMC, Paris

Working Report (2009)

First release: 10 May 2009Present version: 6 September 2009

Ami, entends-tu le vol noir des corbeaux sur nos plaines ?[My friend, do you hear the dark flight of the crows over our plains?]

—Maurice Druon, Joseph Kessel,Chant des Partisans(1943)

“I think that there is a small experiment which we may try tomorrow, Watson, in order tothrow some light on the matter.”

—Sir Arthur Conan Doyle,The Adventure of the Shoscombe Old Place(1927)

Preface

In mid-2006 the Chinese government announced that it was in the process of draft-ing a new labor law which would give greater power to the All-China Federation ofTrade Unions (ACFTU). The new law would give to labor unions the right to col-lective bargaining on such matters as wages, working hours,bonuses, work safety,insurance benefits. In the past, existing labor laws have notbeen really enforced.WalMart, Disney, McDonald’s and Adidas have been singled out for using contrac-tors that violate China’s labor laws. In 2006, Microsoft China, McDonald’s, Price-waterhouseCoopers (a financial consulting firm) and many other foreign companieswere not unionized.Hoping to head off some of the new rules, representatives of some American andEuropean companies began an intense lobbying campaign to persuade the Chinesegovernment to mollify the draft. They hinted that if the new law was passed theywould remove some of their factories to countries where wages were kept down1.

This example illustrates fairly well the main issue faced bythe world economy. If onone hand wages in developing countries are prevented from going up in spite of hugeincreases in productivity, if on the other hand companies move their business fromhigh wage countries to low wage countries, this will set the conditions for downwardoriented wages, a process that some US lawmakers designate by the expression “raceto the bottom”.

This is not mere speculation. It is true that in China wages went up substantiallyand that living conditions have improved but this is hardly true in many other places.Mexico is a case in point. After 30 years of industrial investment in themaquiladoraborder zone the living conditions in this area remain very difficult. At the sametime the decisions made by US companies to establish their new factories beyondthe Mexican border has weakened the demand for labor in the United States and hastherefore contributed to depressing American wages.

Evidence provided in the following chapters suggests that the previous process whicheventually lead to the present crisis already began to buildup in the mid-1970s. Itis around 1975 that (real) US wages reached a peak-level theywould never regain

1More details on this question can be found in the following articles published by the New York Times and availableon line : 13 October 2006, 10 April 2007, 30 June 2007, 11 September 2008.

viii Preface

in following decades. The mid-1970s also marked the beginning of a huge inflowof immigrants (in large part of Hispanic origin) into the United States. It was alsoaround 1975 that the number of strikes began to fall sharply denoting an erosion ofthe bargaining power of American unions.

The inflated supply of labor depressed wages and this had the consequence that con-sumption could be increased only by an unprecedented development of credit.

Perhaps the reader may think that to blame the prevailing economic system for theunfolding depression is a fairly common and all too easy temptation. In fact, theauthor did not wait until 2009 to question the neoliberal creed and take it to task2.Moreover, it can be observed that even at the present time of writing there are butfew voices in the media who establish a link between the rootsof the crisis and themain tenets of the neoliberal agenda3. Indeed, as we will see in chapter 9, the term“neoliberalism” is hardly ever used in major newspapers. Asanother illustration, onecan mention that according to current polls conducted in Britain, the ConservativeParty has a lead of 19 percent over the Labour Party. This clearly suggests that mostpeople do not wish to establish any connection between the ideology of Thatcherismwhich still underpins the political agenda of the Conservative Party and the presentwoes of the British economy.

The most current attitude nowadays is to attribute the crisis to some errors and ex-cesses; this notion is embodied in the expression “subprimecrisis”. That this ex-pression is much too narrow is obvious from the fact that, as we will see, the policyof making subprime loans and packaging them into mortgage backed securities wasalready used during previous real estate booms and can hardly account for the catas-trophic consequences seen in 2007–2008.

The policy which results from such a narrow conception is clear: bail out the de-faulted companies, make credit flow again, restore confidence and the economic sys-tem will be up again for a new period of prosperity. This is to forget that the 1990swere a time of affluence only for those who were able to partakein financial profits.Wages, on the contrary, did hardly increase either in the United States, in Europe orin Japan.

To talk about a golden decade is also to ignore that between 1995 and 2007 eco-nomic growth in the United States was largely fed by an increasing deficit of thecurrent-account balance (the largest component being the deficit on goods). By this

2See for instance chapters 6 and 8 of “Driving Forces of Physical, Biological and Socio-Economic Phenomena” whichwas published by Cambridge University Press in May 2007.

3Even such lucid and renowned economists as Paul Krugman and Joseph Stiglitz put little emphasis on the transforma-tions which took place in the labor market and union legislation. As we will show, these changes preceded deregulationand Reaganomics. A suggestive summary of Paul Krugman’s perspective can be read in one of his New York Timesarticles entitled “Reagan did it” (1 June 2009).

Preface ix

mechanism a substantial part of consumption and growth was achieved through anincrease of the outstanding Treasury debt4. As the deficit of current account was onaverage of the order of 3% of GDP, it means that once this spurious part of growth isdiscounted, the real growth was in fact fairly weak, of the order of 1% per year. Thesame argument also holds for other countries, for instance Britain. In spite of beinga major oil producing country, Britain had an average deficitof current account ofthe order of 2.5% of GDP over the period 2004-2007.

If the influenza epidemic which appeared in March 2009 spreads further (as is quitepossible on the basis of the exponential growth of the numberof cases so far) itwill be a further hindrance to international trade. However, the example of the in-fluenza epidemic of 1918 suggests that this should not have a big impact on economicgrowth. Indeed, from 1917 to 1918 there was a 9% increase in USGross DomesticProduct. The contraction which occurred in 1920–1921 had nothing to do with theepidemic.

The present crisis has been preceded by numerous warnings. From the failure of“Long Term Capital Management” (LTCM) in 1998 to the bankruptcy of Icelandin 2008, there have been many financial and economic crashes.What gave to thesecrashes the character of specific warnings is the fact that the companies and countriesinvolved embodied the very essence of the free-market ideology.• Founded in 1994, LTCM was a US hedge fund whose board comprised two

directors, Myron Scholes and Robert C. Merton, who shared the 1997 Nobel prizein economics. Highly leveraged, its operations were based on quantitative stochas-tic models. At first they were very successful with annual returns of about 40%.The wind turned in mid-1998. After losing $4.6 billion, LTCMwas bailed out by aconsortium of banks in an operation supervised by the Federal Reserve. The failurelead to an abrupt but short-lived stock market crash to whichthe Federal Reserveresponded by lowering its interest rate.In short, this episode prefigured in several ways the bailoutof much bigger compa-nies such as Sears or AIG ten years later. The scenario was very much the same: sud-den and unexpected failure, bailout led by the Federal Reserve, stock market crash,lowering of interest rates and massive loans made to the banking system. There wasa difference in scale however: in 2008 the losses were (at least) ten times larger thanin 1998.What made the failure of LTCM particularly ominous for the future was the factthat the sophisticated hedging procedures which were supposed to provide a shieldagainst heavy losses simply did not work.

4In this respect the 1970s also marked a turning point. From 1945 to 1975 the ratio of Treasury debt to Gross DomesticProduct (GDP) fell from 120% to 35%; after 1980 it began to increase fairly steadily.

x Preface

• Enron Corporation was awarded the title of “Most innovativeUS corporation”by Fortune Magazine in 2001 just a few months before asking for bankruptcy pro-tection. Two months later, in January 2002, there was the bankruptcy of “GlobalCrossing” and in July 2002 the failure of WorldCom. What madethese failures ofparticular significance is the fact that they revealed huge accounting scandals. In hisbook published in 2003, Frank Partnoy shows convincingly that in many other (moretechnical) ways these collapses prefigured the global financial crisis of 2007-2008.What makes his analysis particularly meaningful is of course the fact that it waspublished four yearsbeforethe outbreak of the present crisis.• Argentina used to be the International Monetary Fund’s poster child. During

the 1990s the IMF praised Argentina and used it as an example to show the rest ofthe developing world what sort of economic success could come from following theneo-liberal and free market policies of the IMF. By 1995, 90%of all state enterpriseshad been privatized. But prosperity lasted only so long as credit was abundant. InDecember 2001, Argentina plunged into a devastating economic crisis. Privatizationpolicies also lead to lackluster performances in other Latin American countries.• Britain, Hungary, Ireland and Iceland were acclaimed examples of the success of

free-market policies. Yet again, in all these cases, the level of indebtedness was stag-gering and the financial houses of cards collapsed as soon as credit became scarce.

The comparative methodology that we advocate and use in thisbook often leads totestable conclusions and predictions5. Naturally, predictions are dependent upon theceteris paribuscondition (i.e. “all other things being equal”). This can beillustratedby the prediction regarding the evolution of the NASDAQ Composite index in theyears after the crash of March 2000 that was proposed in the first edition of this bookand is recalled in Fig. 1. It was in agreement with observation for four years, from2000 to 2003. Then, something unexpected happened. Many companies (e.g. IBM,Intel, Microsoft) started massive buyback programs of their own shares6.

As another illustration, one can mention a prediction aboutreal estate prices in thewest of the United States which was made in mid-2005 and published in Roehner(2006). So far it turned out to be correct but it is clear that if in coming months (oryears) there is a massive federal program to prop up house prices, theceteris paribuscondition will no longer hold. In this respect, the situation is exactly the same asin experimental physics when an unexpected exogenous factor interferes with thephenomenon that one tries to observe.

5These predictions rely on observed quantitative regularities rather than on mathematical models. The reasons for thisare explained in Roehner (2008 b).

6At the same time there was a huge increase in mergers and acquisitions which is also known as a factor which raisesstock prices, mainly because to make such operations successful share holders are offered more than the current marketprice.

Preface xi

6789

10

20

30

40

50

0 2 4 6 8 10 12 14 16 18 20Years (peak=10.3)

Def

late

d st

ock

inde

x

30

40

50

60

70

80

90

100Prediction

Actual course of the NASDAQ

Buybacks by quarter

Fig. 1 NASDAQ Composite index: prediction compared with observation. Year 10 on the horizontal axiscorresponds to 2000; the downturn occurred in March 2000 which corresponds to 10.3. The prediction coversthe interval 10-16 that is to say 2000-2006. Made in May 2000,it was published in January 2001 in thefirst edition of this book (Fig. 7.12). The prediction is based on the common pattern of speculative price peaksobserved on various stock markets since the mid-19th century. The main purpose of this graph is to illustrate theimportance of theceteris paribus(“all other things being equal”) condition by showing that massive buybacks(which are basically unpredictable) can have a substantialinfluence on stock prices. The vertical scale on theright-hand side refers to buybacks expressed in billion of dollars; they tripled in 2003-2004.Sources: NASDAQ:http://finance.yahoo.com/; Consumer Price Index: Websiteof the St Louis Federal Reserve; Buybacks: Pressreleases of Standard and Poor’s.

The previous examples show that one must be very careful in comparing theoret-ical predictions with observations. However, what makes the discussion of manyeconomic issues quite unsatisfactory is due to a much simpler reason. It is the factthat the lessons of history are completely discarded. This point is underlined in thecitation by Anna J. Schwartz that can be read on the first page of this book. As anillustrative example (see chapter 12 for more details), onecan mention the fact that in1893 one third of the American railroad companies had to be bailed out7. On accountof such evidence should it not be clear that the privatization of railroads can hardlybe a successful operation? When it was attempted by the government of MargaretThatcher it turned out to be so successful that the private “Railtrack” company hadto be re-nationalized in 2006 in the wake of a series of tragicaccidents. Yet, in spiteof such converging evidence, the privatization of Europeanrailroads is still on theagenda of the Commission of the European Union.

Apart from the loss in efficiency due to increased technical and economic segmen-tation, another adverse effect of privatization was amply demonstrated in the past

7For one of these companies it was the third bailout in a row. Asis well known, British and French railroad companiesalso faced similar problems.

xii Preface

decade. It can be called the “bonus-triggered doctoring effect”. When the bonusesof executives are tied to specific levels of earnings, it is extremely tempting to do justabout anything to meet (or appear to meet) the goal: cooking the books, playing downdebt through off-balance sheet accounting, favoring short-term profit over long-terminvestments are some of the methods which have been used at Enron, WorldCom,Fannie Mae, Freddie Mac and numerous other companies. For listed companies thistemptation is even stronger because many bonuses are paid instock options (call op-tions) which, to become profitable, require share prices to go up. Thus, shareholdersmust be cajoled in any possible way.

Yet, in current-day mainstream thinking privatization is still regarded as a miraclecure. How can one explain such a paradox? A clue may have been given by formerVice-President Al Gore when, during his lengthy campaign onthe issue of carbondioxide emissions, he observed that:

“You cannot make somebody understand something if his (or her) salary de-pends upon not understanding it.”

It seems that the same observation also applies to the agendaof neoliberalism. Tai-lored for the wealthy, this political philosophy has well served its purpose for manydecades. Why then should it be questioned?

Bertrand Roehner (Email: [email protected])Paris, 10 May 2009

Email: [email protected]

Comments are welcome

CONTENTS

Chapter 1 Overview of neoliberalism

1 Roots of the neoliberal program2 Neoliberalism and the financial crisis3 Neoliberal ideology and social fragmentation4 The promotion of neoliberalism

Chapter 2 Triumph of neoliberalism in economics

1 State power and cracks at grass-root level2 Income inequality: the watershed of 19753 Ownership by “absentee landlords”4 Weakened national solidarity

Appendix A: Possible scenario for the economic crisis

Chapter 3 Triumph of neoliberalism in society

1 Leveling off in education trends2 Abrupt increase in the trend of incarceration rate3 Change in the trend of infant mortality4 Increased segmentation of the American society

4.1 Why should one focus on social segmentation?4.2 Persistence of the Black-White divide4.3 “White flight”4.4 Gated communities4.5 The self-sufficient world of US Armed forces4.6 Deepening gap between employers and employees4.7 Aging and underfunded transportation infrastructures4.8 Decline in the membership of social organizations4.9 Lack of communication among employees

Chapter 4 Triumph of neoliberalism in finance

1 Aggravating factors2 Greater segmentation3 How can one follow the buildup of a speculative episode?

3.1 Stocks

xiv Preface

3.2 Real estate3.3 Bonds3.4 Derivatives

4 Spreading neoliberalism: overlords and vassals4.1 Dollarization4.2 Currency board4.3 The aftermath of the Argentinian collapse4.4 Historical roots4.5 Other forms of oversight and control4.6 Privatization and economic return4.7 Role of the armed forces4.8 The future4.9 Why does privatization offer inroad opportunities

to foreign companies?5 Absentee ownership in Eastern Europe

in the next decade6 Previous speculative crises

6.1 Previous “subprime crises”6.2 Regulation, self-regulation or no regulation at all6.3 A highly profitable business

Chapter 5 State intervention: myth versus reality

1 Japan’s Keynes2 Role of government subsidies at micro-economic level

2.1 Civilian aircraft follow the design of military aircraft2.2 The case of airliners which do not benefit from subsidies

3 Other ways in which states help national companies3.1 The Vickers Viscount3.2 The Concorde3.3 Are the US certification agency and Boeing too close?

4 Answers to objections4.1 Boeing 7474.2 Airbus A320

5 Role of government subsidies at macro-economic level5.1 Withdrawal of the federal government5.2 Promotion of the neoliberal agenda

Chapter 6 Is there a way out?

Contents xv

1 Crisis of 1893-19002 1932-1933: Runs on banks and closing of the Stock Exchange3 1933-1938: Opposition to New Deal policy4 1946-1955: Anti-New Deal reforms

4.1 Broken promises4.2 The turning point of 1945 and the Cold War4.3 The Taft-Hartley Law

5 Will Obama’s presidency mark a turning point?6 What should be expected in 2010 and 2011?7 Some tests for the years to come

7.1 Comparison between 1929 and 2008 in termsof synchronicity

7.2 Comparison with the Great Depression in termsof social interactions

8 Supply of labor8.1 In the 19th century8.2 After 19458.3 Can the trend be reversed?

9 Insight about the future9.1 Toward a new model?9.2 Is there a way out?

References

Neoliberalism: an overview 1

Chapter 1Neoliberalism: an overview

NeoliberalismBroadly speaking, neoliberal policies tend to encourage free trade and to reduce therole of government which is why they are often referred to as free-market policies.Among the consequences of such policies one can mention the following effects.• Privatization may lead to control by foreign companies; this point is discussed

later on in connection with Latin America and Eastern Europe.• Because free-trade is also interpreted as free circulationof manpower, huge

amounts of cheap labor become available in industrialized economies which in turndepresses wages and reduces the incentives for technical innovation in productionprocesses. A side-effect of cheap labor imports is to erode the role of unions. Forinstance in the US private sector the unionization rate decreased from 30% in the1950s to about 8% in 2008.• Because taxes are seen as an hindrance to free-market mechanisms the neolib-

eral agenda requires sharp cuts in tax rates for both households and companies andlight tax rates for financial revenue. Needless to say, such policies mainly benefit tothe wealthiest people. This reduction in income redistribution led to an erosion ofsocial solidarity. A subsequent chapter will discuss this point in greater detail.• In industrialized countries down-sizing of the role of the government leads to

under-investment in basic infrastructures such as roads, bridges, dams, dikes, publictransportation facilities.

From a methodological perspective it is often helpful to consider cases in which theeffects that one wants to study appear most clearly. The emirate of Dubai epito-mizes many of the positive as well as negative aspects of neoliberal policies. Onecan mention: massive imports of cheap labor, negligible taxrates for Emiratis andcompanies, non-unionized workforce, a bold project of creating in the middle of adesert a metropolis based on tourism and financial services.It will be interesting tosee how Dubai weathers the economic crisis8.

8The sociological consequences of this project are described and analyzed in an article published in the British news-paper “The Independent” (Hari 2009).

2 Chapter 1

Table 1.1a Occurrences of the term “neoliberalism”in newspapers: number of articles per month in 2000 and 2008

Newspaper 2000 2008

BritainGuardian 1 4

The Independent 0.08 0.6Average 0.54 2.3

FranceFigaro not available 0.8Le Monde 1.7 2.5Average 1.7 1.6

United StatesChristian Science Monitor 0.08 0.08New York Times 0.0 0.4Washington Post 0.2 0.5Average 0.09 0.3

Global average (3 countries) 0.8 1.4

Notes: According to the definition given on Wikipedia, the term “neoliberalism” is most often used by critics ofthe doctrine. Proponents prefer to use the terms “market economy” or “market liberalism”. This observation isindeed confirmed by the data given in the table in the sense that “neoliberalism” is used more often by left-wingoriented newspapers than by right-wing papers. However, beyond this left-right difference there is also a cleardifference between countries: the frequency is markedly higher in Britain than in the United States.The word “Reaganomics” was mainly used during the two terms of president Reagan (1981-1989); after 1990the word was used less than once a month in the New York Times.Source: The data have been obtained by using the key-word search engines available on the websites of thenewspapers.

Roots of the neoliberal programAs shown by the tables below, the word “neoliberalism” has not been much used inthe past and is still sparsely used at the time of writing.The first occurrence of the word “neoliberalism” in the New York Times was in 1983(6 October, section B, p. 8). Before 2000 it was used once every 5 months, and be-tween 2000 and February 2009, about once every three months9. Instead alternativeexpressions have been used. For instance, on 27 February 2009 there was an articleentitled: “Obama’s budget plan sweeps away Reagan ideas”. The article refers tothe fact that after two decades during which taxes on high income brackets had beenlowered, the budget for 2010 was planning tax increases on the top 1%. Yet, “Rea-

9Incidentally, a similar keyword search for the Venezuelan newspaper GloboVision gave 3 occurrences per month in2008. Given the frequency with which the expression is used by President Hugo Chavez one would have expected a higherrate of occurrence. However, as we are not familiar with the political orientation of the papers in this country it is difficultat this point to draw a reliable conclusion.


Table 1.1b Occurrence of the word“neoliberalism” on the Internet

Language Word Number Normalization Normalizedof factor number of

websites websites[million] [100 million]

English neoliberalism 2.3 1.8 1.3French neoliberalisme 4 0.8 5.2German neoliberalismus 0.4 0.3 1.3Spanish neoliberalismo 1.8 0.5 3.6

Notes: Because the number of existing websites depends on the language, the numbers of relevant websitesmust be normalized in some way to make them comparable. As normalization factors we used the number ofwebsites obtained for the keyword “economics” expressed inthe respective languages that is to say: economics,economie, Wirthschaftswissenschaft orOkonomie, Economia. In terms of normalized numbers there seems tobe a marked difference between French and Spanish websites on the one hand and English and German websiteson the other hand.Source: The data have been obtained by using the Google search engine.

gan’s ideas” were not limited to tax policy; they brought about many other changessuch as deregulation, reduction of the role played by government agencies, reductionin social welfare programs and so on. Many of these ideas had been advocated byeconomist Milton Friedman who became a close adviser to president Reagan.

Before being implemented by president Reagan, neoliberal ideas had been intro-duced and applied in Latin American countries. One of the first experiments carriedout by the so-called “Chicago Boys” was conducted in Chile after General Pinochet’scoup in September 1973, that is to say about 8 years before President Reagan beganto implement a similar program in the United States.

Although the word “neoliberalism” may be fairly new the notions that it covers arenot. The main ideas of the neoliberal creed have been a permanent and central themein the program of the American Chamber of Commerce and of the National Asso-ciation of Manufacturers for decades. For instance after the election of presidentRoosevelt fierce campaigns were conducted by these organizations against his “so-cialist program” (an expression frequently used at the time) and in favor of a “free-enterprise” agenda. The participation of business in the war program was seen as anopportunity to regain some of the lost ground.As an illustration, one can mention the following declaration made on 17 September1942 by Lammot DuPont, then Chairman of the Board of the DuPont Company10 :

10This excerpt of DuPont’s speech before the resolution committee of the National Association of Manufacturers iscited in Selden (1943, p. 99). The primary source is not givenspecifically for this excerpt but it is indicated that thewhole section is based on the following sources: Lobby Investigation Report (senator Blake); Committee on Educationand Labor (La Follette Committee), Senate Report No 6, part 6; Investigation of Concentration of economic power,Temporary National Economic Committee (TNEC) monograph 26.

4 Chapter 1

“We will win the war by reducing taxes on corporations, high income brackets,and increasing taxes on lower incomes, by removing unions from any powerto tell industry how to produce, how to deal with their employees or anythingelse, by destroying any and all government agencies that stand in the way offree enterprise.”

It took about 40 years for the objectives outlined by Lammot DuPont to be fullyrealized. Naturally, these goals were not specific to American business but wereprobably shared by corporate leaders in other industrialized countries. What wasreally new with the version of neoliberalism which emerged in the late twentiethcentury is the fact that, mainly thanks to the Chicago School, it became an economictheory as well as a political program. So many Nobel prize awards were bestowedon neoliberal economists that the Chicago School became thecenter of mainstreameconomic theory and policy. In spite of the fact that the present crisis has clearlyshown that markets do not regulate themselves, the neoliberal conception will prob-ably remain the mainstream paradigm for many years until being replaced (if ever)by an alternative vision which will take years to emerge and spread.

Neoliberalism and the financial crisisIn his testimony of 23 October 2008 before a House Oversight and GovernmentReform Committee, Alan Greenspan declared:

“It was the failure to properly price such risky assets that precipitated the cri-sis. In recent decades, a vast risk management and pricing system has evolved,combining the best insights of mathematicians and finance experts supportedby major advances in computer and communications technology. This mod-ern risk management paradigm held sway for decades. The whole intellectualedifice, however, collapsed in the summer of last year [i.e. 2007] because thedata inputted into the risk management models generally covered only the pasttwo decades, a period of euphoria. Had instead the models been fitted more ap-propriately to historic periods of stress, capital requirements would have beenmuch higher and the financial world would be in far better shape today. Whenin August 2007 markets eventually trashed the credit agencies’ rosy ratings, ablanket of uncertainty descended on the investment community.

It would probably be a mistake to think that the present crisis will bring down theneoliberal ideology. Basically, this ideology is the expression of corporate interests.The mathematical models mentioned by Alan Greenspan were largelyad hocmodelsset up with the objective of obtaining “rosy ratings” from rating agencies.

It can be noted that Lammot DuPont (1880-1952) was a staunch supporter of the anti-New Deal “American LibertyLeague”.


In this respect one should recall that what makes a model scientific is not the factthat it is expressed through mathematical formulas. Mathematics is only a languagewhich by itself does not carry any truth. What makes a model scientific is the way ithas been tested in various conditions. Let us give two illustrations.• Galileo’s law of free fall was stated by him in plain languagebut it was based

on extensive experiments and it provided the starting pointof classical mechanics.• The fact that Einstein’s theory of gravitation uses sophisticated mathematical

tools does not have any implication as to its truth. Nowadaysit is accepted by mostphysicists because during 90 years it has been tested in various experiments andastronomical observations and was found to stand these tests with success.

There can be little doubt that it will be possible to revise these models in a waywhich makes them more consistent with the present business situation but withoutcalling into question the “free market” assumptions on which neoliberalism relies.As a matter of fact this is the direction indicated by Greenspan. He does not suggestany oversight of derivatives markets by the Securities and Exchange Commission.Instead he suggests that simply by adequately changing riskparameters in financialmodels they will again be working as well as they have been working during the pastthree decades. It is likely that most investors wish to keep asystem which has beenso profitable. According to the New York Times (4 March 2007),during the threedecades up to 1999 Mr. Soros’s fund returned more than 30% a year on average.This represents an overall multiplication by a factor1.330 = 2620.In the same article, one also learns that in managing the money of King’s Collegeof Cambridge University from 1928 to 1945 (less than two decades) John MaynardKeynes earned the College an average annualized return of 13%, i.e. an overallmultiplication by 1.1218 = 9.0. This is certainly a good performance especiallyduring a period of time marked by the Great Depression and thewar, but neverthelessbetween 30% and 13% there is a big difference.

When Alan Greenspan speaks of the collapse of the intellectual edifice of financialmathematics he has mainly in mind the pricing system. It is quite possible that ex-otic financial products had been priced too low, a problem which can probably beremedied by changing a few parameters in the pricing models.In contrast the failure of therisk managementedifice calls into question the sound-ness of sophisticated hedging methods. To explain this point let us start from aconcrete example. The University of Harvard relies on its endowment (i.e. its capi-tal assets) for paying the salaries of faculty and staff members and for its extensionprograms. This endowment which amounted to $37 billion on 1 July 2008 is thelargest of any US university. Yet, in the 3 months between July and October 2008it had shrunk by 22%. The endowments of other universities experienced a similar

6 Chapter 1

fate with declines of 13% and 11% for Yale and Princeton respectively (New YorkTimes 22 Feb 2009). One of the main justifications for introducing a broad set ofnew financial products was to provide more flexibility and efficiency in hedging op-erations. These new hedging tools, it was claimed, would allow fund managers toavoid major losses even in the case of unexpected changes. Such hedging strategieswere particularly suited for university endowments for which the main goal was toprotect the underlying capital in a long-term perspective.The large losses experi-enced by Harvard, Yale and Princeton show that hedging and risk control did notwork. Needless to say, the same observation can be repeated for the management ofmany other funds from money funds to pension funds. In all these cases Greenspan’s“infectious greed” argument does not apply because these managers did not (and bylaw were not allowed to) pursuit risky strategies; their duty was to use hedging anddiversification strategies to protect their capital against any financial upheaval. Yet,it seems they were let down precisely by the sophisticated tools designed to provideprotection.

Neoliberal ideology and social fragmentationIn a general way the implementation of neoliberal policies results in increased so-cial fragmentation. In subsequent chapters we will illustrate this fragmentation bydescribing examples from the economic, financial and socialspheres. One may won-der how this connection between neoliberalism and social segmentation can be ex-plained.

As a first possible explanation one may mention the underlying economic theory.The classical and neoclassical view of economics is based onthe notion ofindividu-als making rational decisions in order to maximize their utility function. Collectivefactors, such as for instance interactions between employees or “herd effects” intimes of financial panics, are not taken into consideration.Thus, one can hardly besurprised that neoliberal policies result in processes of social fragmentation.

It can be noted that the axioms of neoclassical economics areimplemented in a fairlyselective way. The existence of monopolies or oligopolies is certainly at odds withneoclassical principles. Yet, nowadays this issues are almost never mentioned bythe proponents of free-market. Monopolies such as Microsoft or oligopolies such asBoeing and Airbus are well accepted. This omission is all themore surprising whenone realizes that the decade from 1995 to 2005 has been markedby a huge numberof mergers and acquisitions which markedly increased economic concentration11 .

11The wave of bailouts in the fall of 2008 also resulted in increased concentration because many failed firms werebought up by competitors.


The lack of attention given to this question stands in contrast to the scrutiny that itreceived during the period of the New Deal12. Similarly, questions about lobbyinggroups which received so much attention in the 1930s are almost never mentionednowadays. Do such lobbying groups not interfere with a “rational allocation of fac-tors”?

Neoliberalism and privatizationThe two major characteristics of neoliberal programs are (i) privatization of profitgenerating activities (ii) transfert to the state that is tosay to tax-payers of the socialcost (e.g. the consequences of social disaggregation) of neoliberal programs.

The first characteristic can be illustrated by the case of Argentina. Between 1990and 1995, 121 state-owned (or state-controlled) companieshave been sold off tothe private sector. Railroads, subways, oil companies, water and sewage networks,telephone networks, national airlines were placed on the auction block13.

After privatization the workforce in many of these sectors was drastically reduced.• In railroads: from 87,000 in 1991 to 5,200 in 1995.• In state petroleum: from 52,000 in 1990 to 6,000 in 1995• In the federal administration: from 874,000 in 1989 to 200,000 in 1994.

What was the result of this policy? Between 1990 and 1998 the Gross DomesticProduct per capita at constant price expressed in US dollarsincreased fom $2,738 to$8,000 (Wikipedia, article “Economy of Argentina”, an average annual growth rateof 14%, Well, quite remarkable one might think. But let us look at the evolution ofunemployment:

1984 1989 1992 1994 1995 1998

Unemployment rate 4.4% 8.1% 7.0% 11% 18% 12%

Source: 1984-1995: Keeling (1997); 1998: Wkipedia, article “Economy of Argentina”.

How can one reconcile such contradictory results? The answer is very simple.(1) In 1990 the exchange rate of the Argentinian peso was 1 peso = 0.49 US$;

then, in 1993 in the course of the dollarization process it was set somewhat arbitrarilyat: 1 peso = 1 US$. Such an artificial rate did not hold very longhowever. In 2001 itfell back to 1 peso = 0.31 US$.Now, if instead of expressing the previous GDP growth in US$ (which inflated it bya factor 2) we express it in peso (still at constant price), one gets an average annualgrowth rate of 4.5%. Still not bad! But this is not the end of the story. Between 1990

12See for instance the “Investigation of Concentration of Economic Power” by the Temporary National EconomicCommittee.

13Keeling (1997)

8 Chapter 1

and 1998 the current account balance in percentage of GDP was: -2.3%. In otherwords, 2.3% of the growth was financed through increased public debt. Thus, the“true” average growth rate was only 2.2%. It must be added that these years werecharacterized by a high inflow of (mainly short-term) capital, otherwise the currentaccount balance would have lead to greater difficulties.

In short, the privatization process lead to dismal results in economic terms. As oneknows it also led to the financial crisis of 2002. The scenarioin Argentina was notnot very different from the one which developed in the wake ofhe huge privatiza-tion wave of the Soviet economy and lead to the financial crisis of 1998. The EastEuropean countries had a similar experience:• In Poland the average annual growth rate of GDP (adjusted forinflation) over the

period 1999-2007 was 4.1%. Yet, in spite of such a high growthrate unemploymentstayed at an average level of 17% (TradingEconomics Website). It is well knownthat during this decade a large number of Polish workers wentworking in Britain,Ireland and Iceland. Had they remained at home the unemplyment rate would havebeen higher.• Hungary and the Czech Republic show a similar pattern, albeit with lower un-

employment levels. Over the period 1999-2007 both countries experienced averagegrowth rates of GDP (adjusted for inflation) of the order of 4%. Yet, the unemploy-ment never fell under 7%.It is usually considered that with a growth rate of 2.5% to 3% an economy is stablein terms of unemployment. With a lower growth rate unemployment tends to risewhereas with a higher growth rate it tends to fall14. Thus, when a economy growthrate is about 4% over a decade and nevertheless the jobless rate does not decline,this signals that there is something wrong. The most common explanation is that theGDP was inflated by financial profits (for instance due to a housing bubble) itselftriggered by an inflow of short-term capital.In other words, the Argentina syndrome can be observed in more or less severe formsin many countries which have undergone a large-scale privatization process.

The promotion of neoliberalismIn May 2008 the University of Chicago set up the project of establishing the MiltonFriedman Institute. This is a $200 million project and the majority of the fundswill be raised from alumni and business leaders. An initial set of donors at the $1and $2 million level will be invited to become members of the Milton FriedmanSociety. The initiators of this project claim that the Institute will be a center for path-

14Unless it is already at a low level around 3% which characterizes the residual unemployment due to the temporarystate of joblessness in the process of shifting from one job to another.


Fig. 1.1 The future home of the Friedman Institute at the University of Chicago. The project of the MiltonFriedman Institute was launched in May 2008. The universityprovided half a million dollars in seed moneyand is seeking $200 million in private donations of $1 million or more. The building aimed for the Institutecurrently houses the Theological Seminary. One of the main purposes of the Institute will be to host outstandingyoung scholars, post-doctoral fellows, visiting researchers in order (in the words of George Pratt Shultz) “toprepare them to lead enterprises in all sectors and thereby strengthen market-oriented economies”.In August 2008 more than 100 tenured faculty members have signed a petition opposing the institute. Criticssay that they are concerned the institute will be a partisan organization.

breaking research. Can such a claim really be trusted? Can one seriously think thatthe sponsors would be happy if this research leads to the conclusion that free marketsdo not regulate themselves and need some kind of supervisionto ensure long-termsustainability? In this connection one should keep in mind the well-known sentenceby Upton Sinclair: “It is difficult to get a man to understand something when hissalary depends upon his not understanding it15.”

As we will see in this chapter and in the next, neoliberalism has far reaching impli-cations not only in finance but also in the economic and socialspheres. In the lastchapter we will examine if there is a way out of the neoliberalideology. If it everhappens it will probably be a rocky and arduous road.As an illustration one can consider the case of railroad privatization. Such experi-ments in Argentina, Britain and the United States ended in failure. In Britain pri-vatization resulted in security failures which lead to manyaccidents and eventuallyto partial re-nationalization. In 2006 Network Rail, a state-backed organization tookover the private company Railtrack. As a result, taxpayers faced unlimited fine forthe errors that led to the Ladbroke Grove disaster in which 31persons died and 400were injured (“The Independent” 1 November 2006). Yet, three years later and in

15This statement was quoted by former Vice-President Al Gore during his decade-long campaign against carbon dioxideemissions.

10 Chapter 1

spite of such clear evidence, privatization of national railroads is still on the agendaof the reforms promoted by the European Commission.

Triumph of neoliberalism in economics 11

Chapter 2Triumph of neoliberalism in economics

State power and cracks at grass-root levelAt the end of the twentieth century the United States was not only the world’s onlysuperpower but also a highly successful nation in terms of scientific innovation, cul-tural creativity and ideological dominance. These achievements largely contributedto the quasi-universal acceptance of the neoliberal creed.Let us give a closer look atsuch achievements.• In the decade 1901-1910 the United States won only 2 Nobel prizes (including

one for Peace to President Theodor Roosevelt) which represented 3.2% of the prizesawarded. In the decade 1919-1928 the American share doubledto 7.8% but remainedmodest with respect to other industrialized countries (e.g. Germany: 22%, France:12%, UK: 12%). If we now move up to the decade 1981-1990 we see asituationwhere the United States completely outranks all other countries; its share of Nobelawards has jumped to 49% while the share of Germany which comes in secondposition is only 8.2%. The situation is almost the same in thedecade 1999-2008with a share of 52% for the United States and only 8.0% for the UK which comes insecond position.Moreover, in all academic ranking of world universities (whatever the criteria used)there is an overwhelming proportion of American universities in the top 50.• With corporations such as Microsoft, Google, eBay or Wikipedia16 the United

States is in a monopolistic situation for the computer and Internet industry. There isa similar situation in agribusiness and biotechnology where firms such as Monsantoenjoy a near monopoly.• The American film industry and TV channels are present worldwide17. It is

probably not an exageration to say that the world news are shaped by Americannews agencies. Election decreed as fair by the State Department and the US me-dias will be seen that way worldwide; similarly, no matter what actually happened,elections said to be marked by widespread fraude will be seenthat way worlwide.Needless to say, in the first class of countries one will likely find allies of the United

16The founders of Wikipedia make the claim that their foundation is based on international cooperation which is prob-ably true; nevertheless, close to 100% of its donors are American, at least for those who are not anonymous as is the caseof over 50%.

17For instance in the cafeterias or meeting places of many Japanese universities there is a wide TV screen whichexclusively broadcasts CNN programs.

12 Chapter 2

States (e.g. Afghanistan, Egypt, El Savador, Mexico, Iraq after 2003) while the sec-ond class would include countries (such as Iran after 1979, Serbia under presidentMilosevic or Venezuela under president Chavez) which oppose the United States.In the same spirit, massacres committed by troops of allied governments (e.g. ElSalvador, Guatemala, South Korea in 1980 or Thailand in 1976and 1992, Turkeyagainst Kurds) will be almost completely ignored while on the contrary massacres(even if of much smaller magnitude) in contentious countries will be pinpointed18.This ability to shape the world opinion became of even greater importance in the In-ternet era which is marked by a globalization and uniformization of public opinion.• The American industry has more world class brands than any other country, e.g.

Coca-Cola, Disney movies and recreation parks, MacDonald fast food restaurants,Starbuck coffeehouses, Nike and so on. General Motors and Ford are present throughtheir subsidiaries in many countries worldwide19.• In terms of military capability the United States enjoys an overwhelming dom-

ination. In 2007 the military spending of the United States which reached $500billions represented 45% of the world total and was about 10 times the spending ofChina which came in second position. With the advances made in Eastern and Cen-tral Europe during the past 20 years the network of American military bases (over700 worldwide) is more extensive than ever.• During the whole period of the Cold War the United States was able to suppress

Communist movements worldwide. It is true that the Vietnam War marked a setbackbut this failure remained isolated in the sense that there was no domino effect. To-ward the end of the 1980s a clever policy was able to win over several East Europeancountries and to outmaneuver the Soviet Union. As a testimony of the wide supportthe United States was able to gather even without the approval of the UN SecurityCouncil, it can be mentioned that 38 countries took part in the occupation of Iraq in2003. Of these, there were 18 East European countries but only 3 from Latin Amer-ica; whereas most of the 18 stayed until 2008, the Latin American countries wereamong the first to withdraw their troops in early 2004.

In short, by 2000-2009 the United States was highly successful in what can be calledhigh end achievements. Yet, at grass-root level the picturewas fairly different. Toplevel research is thriving but high school education is struggling. Although Ameri-

18Countless other examples could be given. Some specific episodes are described in Herman et al. (1988). Althoughthis study focuses on American medias, its argument also holds for the media of many other countries. This kind of biasdoes not apply only to the news but also to the presentation ofhistorical episodes. Although such a disregard of factualevidence may appear chocking to a scientist or an impartial historian, it must be realized that this is not a moral issue butthe result of an asymmetry in competing forces.

19The non-military aircraft division of Boeing has tried a similar operation by sharing the manufacturing of the 787Dreamliner among half a dozen countries. This policy in which the core company provides only the design has made thesuccess of Coca-Cola for decades; it is obviously more difficult to implement for complex products such as cars, ships oraircraft.


can corporations were highly profitable for decades the realwages of their employeeshad been declining since 1975. The worldwide extension of USarmed forces is un-paralleled but at the same time it has become a separate, closed-off and self-sufficiententity within the American society. Although foreign US policy leads the world therelations between the federal government and several of the50 states are becomingincreasingly strained. The same is true also for interstaterelations.

An issue which surfaced with the depression is the tax shelter status offered to com-panies by some states. For instance Delaware holding companies are shell sub-sidiaries to which companies transfer ownership of things like trademarks or patents.Delaware does not tax the income collected from such assets.Apart from Delaware,corporations are also allowed to establish such shell subsidiaries in Nevada andWyoming. Although this system has been used for decades it really gathered mo-mentum in the 1990s. Squeezed by the depression, more than 20states are pushingto collect taxes that corporations are avoiding in this way (New York Times 29 May2009).

Such a picture would not be surprising in the case of a dwindling colonial empirewhen falling income from colonial possessions brings abouta fiscal and social crisis.Such was more or less the case of the UK after World War II. In the present case, weare facing a completely different and, to my best knowledge,fairly unique situation.

A frozen political landscape

We mentioned the ability of the United States to condition and control internationalnews. This does also apply to domestic news. The data which will be presented in thefollowing sections are rarely alluded to in American medias, and are not often dis-cussed by researchers or citizens. To accept such data wouldmean to admit that thefruits of economic growth have not been shared equally and that the American faithin steady progress and improving living standards no longersquares with facts. Quiteunderstandably, there is some reluctance to raise such issues. But because these factsare virtually eliminated from the public debate, any changebecomes unlikely. Inshort, the strength of big media corporations and the capacity of lobbying groups tocontrol Congress bars any move that would modify the currentpower structure.

In a following chapter we compare the challenge faced by President Roosevelt in1933 with the similar challenge faced by President Obama in 2009. We will come tothe conclusion that the drastic turnabout which took place in 1933 can no longer oc-cur in 2009. In spite of being dominated by the Democrats, theCongress is unwillingto provide to President Obama the strong support that was given to President Roo-sevelt. The American political situation appears frozen. Aconfirmation is providedby a statistic about the sucess rate of members of Congress who sought re-election:

14 Chapter 2

from 1978 to 1998, their average sucess rate was 94%; in 1998 it reached 98.3%; inNovember 2004, 394 of the 401 members who sought re-electionwon, a percentageof 98.2%; 83% of the House races were won by a margin of 20% or more. compari-son the re-election rate in European countries is about 60%.

70

75

80

85

90

95

100

1965 1970 1975 1980 1985 1990 1995 2000 2005 2010

Re-

elec

tion

rate

, US

Con

gres

s

Fig. 2.1 a US Congress: re-election rate.After 1980 the re-election rate of Congressmen who sought re-election jumped to a level of about 92% and, apart from temporary fluctuations, remained at that level thereafter.The data points correspond to averages of the percentages ofthe House and Senate. The curve is a three-pointmoving average. The main factor in this evolution is a steadyincrease in the number of so-called safe seats.These are seats for which the winner wins by a margin of over 20% which means that there is in reality onlyone serious candidate.Source:http://www.opensecrets.org/bigpicture/reelect.php?cycle=2006

Three main factors may explain this situation20: (i) At the election of 1998 incum-bents outspent their challengers by an average ratio of 5 to 1. The advantage in termsof funding enjoyed by the incumbent candidate was similar insubsequent electionsexcept perhaps in states with public financing for elections. (ii) Nearly a quarter ofthe candidates seeking re-election did not have a serious opponent; this explains whythe average victory margin was as high as 43% (iii) Gerrymandering (i.e. redefini-tion of the boundaries of electoral districts) has lead to anever increasing number of“safe seats”. At the election of 2002 391 of the 435 House seats were considered assafe seats (in 1992 there were only 314).If in addition one takes into consideration the fact that thepolitics implemented bythe two parties are not very different, one comes to realize that the voters are notgiven a real choice. We come back to this point in the last chapter.

Income inequality: the watershed of 197520Research and Reports (http://www.bettercampains.org)


First we consider four graphs which document a major change in the income pattern.• The first graph shows that there was a drastic change around 1979. In the 3

decades before 1979 the growth of earnings was shared fairlyuniformly by all in-come groups. As a matter of fact, the lowest income group benefited slightly morethan the highest income group. It can be recalled that prior to 1980 the marginal taxrate in the highest tax bracket was 70%; subsequently it was lowered to 35%.

40%

60%

80%

20%

00%

100%

120%

140%

120%

101% 107% 114%

94%

10%

30%

50%

90%

70%

−10%

−30%

0−20% 20−40% 40−60% 60−80% 80−100%

Lowest income quintile Highest income quintile

−16% −8%

−1%

4%9% 14%

25%

72%

0−20% 20−40% 40−60% 60−80% 80−90% 90−95% 95−99% 99−100%Lowest income quintile Top 1% centile

Household income growth by quintile, 1947−1979

Household income growth, 1977−1994

Fig. 2.2 a Change in the income pattern in the United States.The data refer to real (i.e. adjusted forinflation) incomes. After 1979 substantial income increases were confined to the highest income groups andparticularly to the top 1%.Source:“Wealth and Democracy” by Kevin Phillips (2002, p. 138), primary sources:Economic Policy Institute, Congressional Budget Office.

• The second graph presents basically the same evidence. We see that between1965 and 1978 the income of workers and chief executives progressed at the samepace but after that the two lines separated. The earnings of chief executives doubledwhile the income of employees stagnated. Note that in the following 20 years thegrowth of executive pay was even faster. As an illustration,in 2007 Barclays paidits president more than $40 million (The Independent 9 November 2008). In relativeterms such levels of earnings are similar to the income of dukes and princes in formertimes.

Moreover, executives are prepared to go at great length to keep such privileges even

16 Chapter 2

to the point of putting their company at risk. This can be illustrated by the followingstory. The article of the Independent cited above mentions that Barclays shunnedaid by the British government to avoid being forced to curb bonuses. Instead thebank preferred to solicit the (hypothetical) aid of Middle Eastern investors. This wasin November 2008. In the following months Barclays financialsituation continuedto deteriorate and on 13 June 2009 it was announced that it wasselling its GlobalInvestor division (BGI) to US finance giant BlackRock for $8 billion. Under thisdeal Barclays’ president, Bob Diamond, will personally get$26 million while 200BGI’s executives will share a $1 billion windfall; this represents an average of $5million for each executive. In short, the deal resulted in breaking up Barclays, intransferring the control of one of its essential divisions to the ownership of a UScorporation (a move which is hardly in the interest of Britain), but at least Barclays’executives were showered with hefty bonuses21.

By the way, the previous episode also shows that in spite of the troubles experiencedby Citigroup, Bear Stearns, Lehmann, AIG and other Americanfinancial institutions,the US financial groups remain the world leaders. With $27 trillion under manage-ment, BlackRock will be the strongest investment manager inthe world. The factthat it is working for the Federal Reserve in managing the portfolio of mortgage as-sets it received from Bear Stearns as collateral, suggests that the financial crisis ofthe fall of 2008 brought about a closer association of major US financial companieswith federal institutions such as the Federal Reserve and the Treasury.

The two previous graphs were taken from a book by Kevin Phillips entitled “Wealthand Democracy”. It is interesting to note that Phillips was aclose adviser of PresidentNixon.• The third graph compares wage level and strike frequency. Wesee that after

1975 real wages decreased while at the same time the number ofstrikes fell dra-matically. But this evolution started already after World War II. Several Laws werepassed in Congress which strengthened the position of employers and at the sametime curtailed the rights of unions. Because this policy wasto some extent shelvedduring the second term of President Eisenhower and because collective labor con-tracts with employers were usually signed for a duration of 5years, the effects ofthis legislation were felt only progressively. Since 1970 there has been a dramaticdecline in the number of strikes. Real wages reached their maximum in 1973. Afterthis date the largest part of GDP growth was absorbed by the growth of non-salaryearnings (e.g. income from financial assets, real estate profits, etc.) the share of

21The article of “The Independent” (13 June 2009) which reports this story was entitled “Diamond in line for 22 millionpounds as Barclays sells BGI. The article says that althoughin the short-term the $8 billion from the BlackRock deal willenable Barclays to improve its equity ratio, in the long-term the remaining group will be highly exposed to the risks ofvotale earnings.


60

80

100

120

140

160

180

200

1965 1967.5 1970 1972.5 1975 1977.5 1980 1982.5 1985 1987.5 1990

Rea

l inc

omes

in th

e U

nite

d St

ates

(19

68=

100) Real income of corporate chief executives

Real income of hourly-paid production workers

Fig. 2.3 b Increasing income inequality in US corporations.The graph refers to real (i.e. adjusted forinflation) annual incomes. A growing gap developed after 1979 which comes in confirmation of the previousgraph to suggest that there was a deep change in US income patterns in the mid-1970s. In 1999 the average(pre-tax) compensation of the chief executives of the 200 largest US firms was $8.3 million which represented419 times the wage of the average factory worker; in 1980 the ratio was 42.Source: Adapted from “Wealthand Democracy” by Kevin Phillips (2002, chart 3.22); primary source: “The Economist” June 1989

which increased from 35% in 1950 to 55% in 2004.• The fourth graph provides a comparison between the United States and three

other industrialized countries. It shows that with the possible exception of the UKwhich presents a similar (but less marked) trend the other countries do not show thesame evolution.

Ownership by “absentee landlords”Between 1947 and 2000 the assets of American mutual funds as aproportion ofGDP has been multiplied by a factor of the order of one hundred22. Mutual fundgiants such as Fidelity Management and Research (FMR), Vanguard Group, CapitalResearch and Management or State Street, are the major shareholders (with percent-ages over 5% and up to 15%) of many large American corporations.

The term “absentee landlord” became widely used in the 19th century in relation withEnglish owners of large Irish estates. “Absentee” refers tothe fact that these ownersspent most of their time in London or in vacation resorts of the French and ItalianRiviera. More fundamentally, it refers to the fact that theywere only interested inshort-term financial returns. Because they had no knowledgeof and no interest inthe problems of their estates they were reluctant to spend money on investments that

22More details can be found in Roehner (2006, p. 270).

18 Chapter 2

1

10

10 2

1910 1920 1930 1940 1950 1960 1970 1980 1990 2000

Num

ber

of s

trik

es, U

SA (

per

mill

ion

popu

latio

n)

Wag

ner

Act

(19

35)

Taf

t-H

artle

y A

ct (

1947

)

300

400

500

600

700

Weekly earnings of production workers(dollars of 2000)

Strikes

Fig. 2.4 Consequence in terms of earnings of the loss of influence of American labor unions.The WagnerAct was not the first pro-union law of the New Deal era nor was the Taft-Hartley Act the last anti-union lawin the decade following 1945. The Wagner Act in fact replaced(and extended) the labor legislation containedin the “National Industrial Recovery Act” (NIRA) of 1933 after the latter was declared unconstitutional by theSupreme Court in 1935. The Taft-Hartley Act was passed in June 1947 shortly after the Loyalty ExecutiveOrder (No 9835 of March, 1947) which submitted all federal employees to a loyalty oath. It was followedby numerous indictments of union leaders based on the so-called “Thought Control Smith Act” (1940), bythe McCarran Internal Security Act (September 1950), the McCarran-Walter Immigration and Nationality Act(1952) and the Communist Control Act (August 1954). Under the cover of fighting Communism, these laws infact considerably weakened labor unions.Sources: Statistical Abstract of the United States; Website of the USDepartment of Labor.

would have brought a return only in the long-term. The stewards who managed theestates had of course a better knowledge but they were powerless as far as investmentdecisions were concerned.

The situation is similar for holding companies, mutual funds or private buyout com-panies. Their interest in the companies that they own is restricted to immediatefinancial returns23. Moreover, because of their lack of empathy they are in the sameposition as Stanley Milgram’s instructors (see Roehner 2007, chapter 8) who inflicted

23This situation is plainly apparent in economic and financialnewspapers. Very little attention is given to the technicalissues faced by companies. Ninety percent of the content is devoted to questions about mergers, acquisitions, changes oftop executives, stock prices, bond issuance and other financial issues. Moreover all these topics are considered in a highlycompartmentalized way. Thus, until recently it was not realized that problems in the real estate sector can have an impacton financial markets. Even nowadays it is hardly ever realized that the main engine of an economy is the income earnedby employees. If this income is depressed through large scale imports of cheap labor there can be no sustainable domesticdemand.


0

1

2

3

4

5

6

7

1950 1960 1970 1980 1990 2000

Inco

me

shar

e of

top

0.1

perc

ent h

ouse

hold

s (%

)

U.S.

U.K.

France

Japan

Fig. 2.5 Income inequality in several countries.Vertical scale: share of national income earned by the 0.1%of the households with highest income. The data are based on incomes reported to the fiscal administration;they represent incomes before the payment of income taxes and exclude capital gains. The thick curves aremoving averages of the data points. Under an egalitarian distribution of income the top 0.1% would earn 0.1%of national income. According to the present graph their share is 20 larger in 1970 and 60 times larger in 1998.Sources: US, UK, France: Piketty and Saez (2003); Japan: Moriguchi and Saez (2004).

painful shocks on their subjects without much hesitation.This can be illustrated by the attitude of employers with respect to fatal accidents inthe workplace. According to an investigation performed by journalists of the NewYork Times (Barstow 2003) it appears that over the period 1982-2002 there were2,197 cases in which fatal accidents were due todeliberateviolations of safety lawsby employers24. Even more revealing of theZeitgeistwhich prevailed during thisperiod is the attitude of the federal government.• Only 1,242 of these 2,197 deaths were ever investigated by the federal “Occupa-

tional Safety and Health Administration”. Moreover, in 93%of the cases that wereinvestigated, OSHA declined to seek prosecution.• Former OSHA officials say that those who were pushing for prosecution were

hardly ever rewarded and in some cases they were penalized.• When Congress established OSHA in 1970 it decided to make it amisde-24The total annual number of fatal workplace accidents in the same time interval was about 5,000.

20 Chapter 2

meanor25 to cause the death of a worker by willfully violating safety laws. The max-imum sentence, six months in jail, is half the maximum for harassing a wild burro(small donkey) on federal lands. As a result, the average prison term per worker’sdeath was only 5 days.

The fracture between management and workforce is not only harmful for employees,it also results in poor global efficiency. This means that in the long term such asystem can hardly survive if competitors are allowed to emerge.

Even though the previous observations point to a deepening of the divide betweenemployees and employers in recent decades this should not beinterpreted as a steadyand linear trend. There was already a broad divide in the 19thcentury which to someextent narrowed in the first half of the 20th century. As an illustration of the turnof mind which prevailed in the early 20th century one can citethe following excerptfrom a Federal report on industrial relations26:

The lives of millions of wage earners are subject to the dictation of a relativelysmall number of men who are totally ignorant of every aspect of the industrieswhich they control, except the finances, and are totally unconcerned with regardto the working and living conditions of the employees in those industries.

Weakened national solidarityOne of the main roles of government whether at federal or state level is to improvecollective living conditions for instance by providing schools, roads, bridges, police.Strengthening national solidarity is another important function of governments.

In the past decades two factors contributed to reducing thisrole.The first factor was the influence of the neoliberal ideology.As one knows it pro-claimed that the role of government should be limited to its most basic functions(army, diplomacy, police) and that the poor should care for themselves or be helpedby non government organizations. Such a narrow conception of social solidarity wasalready prevalent in 19th century England. Revealing of this orientation was the in-stitution of the workhouses. In order to get shelter and meals, poor people had tocarry out absurdly useless tasks such as breaking stones. Similarly in India duringperiods of famine men,women and children had to break stonesin order to get relief.For more details see Nash (1900) and Longmate (1974).

The second factor was the erosion in tax-income at both federal and state level. This

25As opposed to a felony, a more serious criminal act. Petty theft, prostitution, vandalism, public intoxication aremisdemeanors.

26The excerpt is from the “Final Report of the Commission on Industrial Relations” and is cited in Boyer and Morris(1955). As a case in point the report includes the copy of a cable addressed by J.P. Morgan from his castle at Aix LesBains (France) as to the necessity of a low wage scale.


erosion can be attributed to the change in tax rules (also brought about by the sameideology as already discussed). However one must also mention the development oftax havens.In a report issued in 2005 the “Tax Justice Network” estimated that global tax revenuelost to tax havens exceeded $255 billion per year27. Actually, when compared withthe budget of the United States which is of the order of 2,000 billions, 225 billions isnot a big amount. The main point is rather that there has been arapid developmentof tax havens during the past 20 years and that this evolutionwill continue unlessthe government of the United States changes its stance on this topic. The position ofthe Obama administration on this important topic will be discussed in a subsequentchapter.

27The source is: “The price of offshore”, Briefing paper (March2005). It is true that this figure was contested by the“Center for Freedom and Prosperity”. However, the fact thatthis organization was created to lobby legislators in favorofmarket liberalization and offshore financial centers suggests that it cannot entirely be trusted.

22 Chapter 2

Appendix A: Possible scenario for the economic crisisIn this appendix we describe a scenario which shows why and how the triumph ofneoliberalism may be connected with the financial crisis. Itis quite by purpose thatwe make this point in an appendix. One should keep in mind thatthere can beno scientific explanation of single events. In other words, this scenario can neitherbe proved nor disproved. Depending on their turn of mind, some readers will findthis scenario plausible or on the contrary unlikely. The only way to get closer toa scientific perspective is to find and compare other realizations of the mechanismswhich were at work in this crisis (more on this in a subsequentchapter).

Before describing the scenario let us list the main characteristics of neoliberal poli-cies28.• Privatization of profitable public services• Lower tax rates for companies and affluent people• Deregulation of existing markets and abstaining from regulating new markets

(Internet, new financial products)• Liquidation (or disabling) of federal agencies concerned with environment is-

sues, with health hazards in workplaces or with the control of financial transactions• Facilitating rather than opposing economic concentrationby fusion, acquisition

and buyout• Outsourcing• Substitution of short-term employment contracts to contracts providing long-

term employment guarantees• Globalization of financial markets, including (to say the least) a great tolerance

for off-shore banking and tax heavens29

• Globalization of labor markets; for industrialized countries this meant importingcheap labor.• Discarding unions; it may be recalled that unionization is banned at Wal-Mart,

the largest US company in terms of number of employees.• Drawing higher education and research into the field of market economy. This

in particular implies markedly increased tuition fees.

A possible scenario would consist in the following steps.

28As all lists of this kind this one is fairly subjective; otherpeople with different interests and backgrounds would listother items.

29The position of market liberals on tax havens can be assessedfairly clearly by the opposition generated by candidate,president-elect and then president Obama when he claimed that he would attack tax evasion and tax havens; see forinstance on the Internet the comments made by Bob Bauman calling the legislation planned by the new administrationa “pernicious legislation” and even using the terms “more fascist powers”. It can be recalled that president Rooseveltwas frequently accused of organizing a fascist state. In a cartoon that appeared in the New York World-Telegram on 12November 1935, a businessman writes on a wall: “The New Deal is a combination of George III [who fought Americansin the War of Independence], Hitler, Mussolini, Stalin”.


(1) During World War II the financial aid provided by the United States took aform which was very different from what it had been during World War I. Throughthe Lend-Lease Act a total of $50 billion (equivalent to nearly $700 billion at 2007prices) worth of supplies were shipped to the Allies: $ 31 billion to Britain, $ 11billion to the Soviet Union, $3 billion to France and $1.6 billion to China. No repay-ment of these supplies was required. From an economic point of view Lend-Leaseamounted to huge subsidies to the American industry. This was followed by the Mar-shall Plan. The funds provided to European countries had to be used to pay importsof American products. On the contrary during the First WorldWar the United Statesmade loans to the Allies whose repayment create endless problems after the war.After 1950 the policy of lavish credit supply continued through a succession of smallwars (Korea, Cold War military expenses, Vietnam, Iraq) which amounted to subsi-dized orders for US companies. This set the scene of a world inwhich money supplyand credit were plentiful.The way the Federal government responded to the financialcrisis was again by increasing the money supply.

(2) In the late 1960s American companies experienced an erosion in profitabilityto which they responded in two ways: by investing abroad in countries where salarieswere lower and by limiting wages in the United States throughimports of cheaplabor.

(3) Confronted to an unlimited supply of imported labor US workers and unionsbecame increasingly unable to win strike contests. As a result the number of strikesplummeted and wages began to decrease (as documented in a graph given above).

(4) In the decades after 1975 the share of wages and salaries in the US GDPdecreased steadily from 76% to 45% with a parallel increase of capital gains (e.g.appreciation of stocks or real estate) and corporate profits.

(5) As the US economy could hardly be driven by exports (therewas a substantialdeficit of the commercial balance in part due to the relocation of factories abroad) theonly possible engine was domestic consumption and because of dwindling salariesconsumption had to be propped up by cheap and easy credit. Thus, the scene was setfor the financial crisis.

(6) Deregulation of traditional financial sectors and non-regulation of new finan-cial products (derivatives, collateralized debt obligations, and so on) had created thetools for generating abundant credit.

(7) In 1994 (Orange County bankruptcy), 1998 (Long Term Capital Manage-ment bankruptcy), 2001 (Enron Corporation bankruptcy), 2002 (Global Crossingand WorldCom bankruptcies) there had already been serious crises which showedthe risks of derivatives trading. In most cases the problem was surmounted by in-creasing the money supply.

(8) The real estate boom of 1996-2007 was yet another episodeof economic

24 Chapter 2

growth based on an abundant supply of money. It was made possible by cheap loansand in return housing equity provided collateral value for consumption-oriented loans.

(9) Then, in mid-2007 “something” happened (that we do not yet understand)which changed the attitude of major mutual funds and investment funds with re-spect to the sophisticated financial products that they had welcomed for almost twodecades. Of course, credit crunches had already occurred inthe past in the wakeof the crises mentioned above, but not to the point of affecting almost all financialsectors (bonds, short-term loans, long-term loans, mortgages). In other words, thiswas something new, perhaps not in nature but certainly in scale.A mechanism which may explain the severity of the credit crunch that began in 2007would be a growing divide between the strategic interests ofinvestment funds (suchas Fidelity, State Street Corporation, Vanguard Group, Washington Mutual Invest-ment Funds, Wellington Management Company, Capital GrowthManagement) andinvestment banks. It may be that the rush toward financial products of ever increasingcomplexity and opacity eventually run against the interests of such funds by depriv-ing them of the market control that the sheer amount of their capital assets wouldotherwise give them. The fact that up to 2009 the crisis caused the failure of sev-eral big banks but was much less disruptive for investment funds would lend somesupport to this interpretation. Further confirmation may emerge as the crisis unfolds.

Triumph of neoliberalism in society 25

Chapter 3Triumph of neoliberalism in society

The concept of social capital was developed by Harvard political scientist Robert D.Putnam. In his book entitled “Bowling alone” he suggests that the more people haveopportunities to meet one another the “healthiest” a community is. The main prob-lem is to define terms such as “healthiest” and “social capital” in a fairly objectiveway30. Needless to say, more work is required to better understandthe role of so-cial interaction. The triumph of neoliberalism in many countries provides a uniqueopportunity to analyze the effects of a drastic change in social interaction. Why?

In the previous chapter we have already emphasized that neoliberalism is based on anindividualistic conception. Not surprisingly, therefore, loss of social solidarity is onethe most obvious consequences whenever neoliberal policies are implemented. Howdoes such a loss of social solidarity affect our societies? The answer is not obviousbecause many effects are indirect rather than direct. It mayseem that free-marketpolicies do not prevent people from taking part in bowling associations, in bridgeclubs or in astronomy workshops. Yet, if people must work longer, if the ultimaterational and pervasive purpose of our societies is to maximize the consumption ofgoods, then of course such activities will hardly be encouraged.

In the present chapter we discuss some effects of social fragmentation that can beobserved in present-days societies. In some instances, such as the changing trendsin education, the connection with neoliberal reforms will be fairly clear. In othersfields such as infant mortality or homicide rates this connection will be less obvious.Many of the views put forward in this chapter are presented tentatively.

Leveling off in education trendsThe next graph highlights abrupt changes in educational trends. The lowest linerefers to the percentage of high school graduates, the otherto the percentages ofPhD degrees conferred annually.

How can we interpret this graph?

The stagnation in PhDs may have several causes but a fairly obvious factor is the

30That is what we tried to do in a recent study entitled: “Maximization of interaction as an evolution principle for socialsystems” (2009).

26 Chapter 3

inability of middle-class families to pay such long studies.According to an article published in the Wall Street Journal(4 September 2009), in2008 66% of college students had to borrow to pay for college and their average debtload was $23,180 by the time they graduated. Since 1996, the number of studentswho had to borrow for college inceased fom 58% to 66% and the average amountthat they borrow increased 33% from $13,100 to $23,180. Needless to say, thissituation is very different from the situation experiencedby the generation of postWorld War II veterans for whom the cost of their college education was paid by thefederal government.

Most of these loans were so-called federal-student loans which means that their in-terest rate was lower than private, non-subsidized loans but even with a low rate thecapital must be repaid nonetheless. In fact, there was a major change in federal aid.Around 1980 most of the aid was in the form of grants, around 2005 most of thefunding went to providing subsidized loans.

The average of $23,180 covers a broad variety of situations.The article cited abovementions the case of a 30-year old lawyer who has to repay $175,000 from his 7years in college and law school. Studies in law, business andmedical schools areamong the most expensive.

For the 34% who did not have to borrow their tuition and accommodation expenseswere mostly paid by their families. Of course, even for thosewho had to borrowthe funding provided by their families was also essential because tuition is about$15,000 a year which means a total of $60,000 or $75,000 depending on whether thedegree is obtained in 4 or 5 years. Adding the cost of accommodation one arrives ata total which is some 4 or 5 times the amount of $23,180 which isborrowed.

The decrease in high-school graduates may be related to another effect namely thehigh inflow of uneducated immigrants.

Abrupt increase in the trend of incarceration rate

Sharp upturn in the mid-1970s

The next graph documents a rapid increase in the incarceration rate after 1975. Thehomicide rate is showed mainly for the purpose of comparison. It is true that thehomicide rate was high in 1972 when incarceration began to pick up but it was alsohigh in 1932. It is probably a general rule that crime tends toincrease when economicconditions become difficult. In the years after 1932 the homicide rate decreased byitself (without a jump in incarcerations) as economic conditions became better.

In recent years incarceration rates continued to increase even after homicides had


1

10

10 2

1880 1900 1920 1940 1960 1980 2000

PhD

deg

rees

con

ferr

ed a

nnua

lly (

per

mill

ion

pop.

)

0

10

20

30

40

50

60

70

80

90

100PhD

High School graduates (%)

1973

1968

Fig. 3.1 Number of high school graduates and PhDs in the United States.A marked change in the trendof both curves occurred around 1968-1975. These changes suggest that two transformations took place simul-taneously: (i) A contraction (at least relative to total population) of the upper middle class who previously hadfurnished a large part of PhD graduates. (ii) A widening of the poorest segment whose children leave schoolwithout graduating. It can be observed that in contrast withhigh school and doctorates, the proportion of Bach-elors has continued to increase albeit at a rate that is smaller than during the decades before 1970.Sources:PhD: Statistical Abstract of the United States; high schoolgraduates: Barton (P.E.) 2005: One-third of anation. Policy Information Center Educational Testing Service.

fallen back to their level of the 1960s. Another possible factor may be the priva-tization of many state prisons. Constructing and managing prisons has become abusiness whose “customers” are the inmates.

Privatizing prisons and bribing judges

As one knows during the past three decades there has been a steady move in theUnited States toward the privatization of prisons at state and county level. The ruleaccording to which inmates should be detained in the state inwhich they were triedand sentenced has given way to a more flexible scheme which allows prisoners to besent from one state to another. In this way some states such asArizona have becomehome of large prison facilities which hold prisoners from state as far away as NewYork State.

In a system in which private companies are renumerated on thebasis of the numberof inmates held, it seems natural that in order to maximize profit they would favorfull occupation. Once a new facility for 1,000 inmates has been built by companyAit would look forward to seeing it working at full capacity. Like the director of anhotel the manager of a private prison will try to increase theoccupation rate.

How can he do that?A fairly efficient method to fill a newly built facility is to obtain the closing of for-

28 Chapter 3

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1

1920 1930 1940 1950 1960 1970 1980 1990 2000 2010

US

inca

rcer

atio

n ra

te (

perc

ent o

f po

pula

tion)

0

2

4

6

8

10

12

14

Hom

icid

e ra

te (

per

100,

000

popu

latio

n)

Incarceration rateHomicide rate

Fig. 3.2 Rate of incarceration and homicide rate.The marked increase in the rate of incarceration after1975 resulted in a reduction in the homicide rate which beganaround 1990. Between 1930 and 1955 thehomicide rate fell fairly steadily; this fall seems to have little or no connection with the (small) increase in theincarceration rate that occurred between 1925 and 1935. It should probably be attributed to the improvement ofliving conditions during the New Deal era. In 2008 the average cost of housing a single prisoner was $ 46,000 ayear (i.e. $ 3,800 a month, a figure which is higher than the median personal income of full time workers in theUnited States (The Independent, 15 February 2009).Sources: Statistical Abstract of the United States, variousyears.

merly existing state or county prisons. This can be done under various pretexts: theold prison is no longer in line with existing regulation, itsoperation would be toocostly in coming years, and similar arguments. Of course, tobe credible such argu-ments must be brought forward by state officials not by the managers of the privatefacility.Once a good occupation rate has been reached it must be kept atthis level in forth-coming years which means that prisoners who are freed must bereplaced by newinmates. That can best be achieved with the the judges’ collaboration. As a re-sult one should not be surprised to see that judges are becoming a target of briberyschemes. The following story illustrates some of these mechanisms.

The story of two bribed Pennsylvania county judges

On 26 August 2009 there was a short article in the “International Herald Tribune”


whose title was: “2 ex-judges in kickback case withdrew their guilty pleas”. Atfirst sight this title was not very clear and the rest of the article was hardly clearer butbecause my attention was already focused on this bribery problem I made a thoroughsearch on the Internet and in the articles of the New York Times by using the names ofthe two judges as key-words, namely: Mark A. Ciavarella and Michael T. Conahan,both of Luzerne County31It revealed that this case was a perfect illustration of themechanism explained in the previous section. Here are the main elements of thisbribery scandal.• Election campaigns Conahan ran the first time for Luzerne County judge

in 1993 he announced that he would refuse to accept campaign contributions fromlawyers and law firms. Instead he had to borrow $180,000 to fund his election cam-pain. When he started his 2003 campaign he had to repay $235,000 in loans. How-ever he was able to pay it off thanks to donations from lawyersand law firms, thusreversing the promise made in his 1994 campaign.• Association with a detention center developer In January 2002 Judge Cona-

han became President Judge which gave him control of the courthouse budget. Atabout the same time he came in touch with Robert K. Mericle, a developer of privatedetention centers. Eventually two private detention centers were built by the com-pany Pennsylvania Child Care. By the end of 2002 Conahan eliminated financing ofthe county juvenile detention center thus clearing the way for the operation of Mer-icle’s new detention centers. At the same time Conahan signed a secret agreementwhich pledged that the county would pay $1.3 million in annual rent on top of thetens of millions specified in the official contract for the operation of the detentioncenter.• Red flags When the county financial controller leaked a state audit that de-

scribed the lease of the detention center as a bad deal, JudgeConahan issued a rulingto prevent other documents getting out.Another red flag was the fact that between 2002 and 2007 the percentage of the tri-als in which juvenile defendants appeared without a lawyer was 10 times higher inLuzerne county (50% against 5%); in the same interval, about25% of the over 6,000trials ended with the juveniles being sent to detention center, a percentage 2.5 timeshigher than in the rest of Pennsylvania. The judges were ableto increase the incarcer-ation rate by pressuring probation officials to recommend detention over probation.A case in point is eight-grade Chad Uca who was sentenced to 3 months of detentionfor shoving a boy at school and causing him to cut his head on a locker (Chad Ucahad no prior offenses).A third red flag was the fact that the two judges were spending much of their time at

31In 2008 Luzerne County had a population of 312,000 residents: White: 95%, Black: 3%; in 2007 the average annualhousehold income was 20% lower than the same figure for the whole of Pennsylvania.

30 Chapter 3

their Florida Condo together with their developer friends.• Indictment The two judges were charged in January 2009. It appears that

over the 6 years during which the scheme was in operation theyreceived about $2million in kickbacks. In February 2009 they agreed to serve aterm of 7 years inprison but their sentence will be set only at a later date; at the time of writing (August2009) the inquiry was still under way. In March they were dismissed from the bench.Mr. Mericle was also indicted. He agreed to pay $2.5 million to fund local childrenprograms; he faces tup to 3 years in prison.• The strange attitude of the State Supreme Court In May 2009 the State

Supreme Court decided that “in order to help the youths move on with their lives”all documents related to their convictions should be destoyed. By doing so the Courtwould limit the ability of the youth to get a more equitable trial and would wouldforbid any further investigation of the judges’s corruption.In July the Court said that the records of the 400 youths who are already plaintiffsagainst the judges would be preserved. The other 6,000 wouldbe destroyed.On 12 August 2009 Judge Arthur A. Grim who was appointed by thePennsylv-nia Supreme Court to investigate the case said that there would be no public bene-fit in retrying the cases and he recommonded therefore that such retrials should bedropped.

What should one retain from this case?

(1) Strange as it may seem, it is customary for law firms to fundthe electioncampaigns of judges, just in the same way as companies and lobbying groups sponsorthe campaigns of congressmen and presidential candidates.

(2) Observation shows that the bribery mechanism that one would expect on thebasis of profit maximization does indeed occur.

(3) So great is the power of judges that they can continue their malpractises evenin the face of numerous red flags and incriminating evidence.In the present case ittook 6 years and all the efforts of the Juvenile Law Center of Philadelphia to end thisscheme.

(4) By deciding to destroy incriminating records, the StateSupreme Court gavethe impression of trying to end any further investigation, abehavior that suggeststhat more persons could be involved.

Other bribery cases

Is the case of Luzerne county exceptional or instead is it just the tip of the iceberg?Here is at least one other example. The source is the website of “Private PrisonWatch” (4 July 2009)

The Willacy County (Texas) Adult Correctional Facility is a540-bed prison which


was built in 2002. The Management and Training Corporation,a Utah-based privateprison operator, was awarded a $43 million contract to operate the jail after it wasconstructed.• In January 2005, two Willacy County Commissioners Israel Tamez and Jose

Jimenez resigned their posts and plead guilty to accepting $10,000 in bribes fromconstruction companies connected to the project in return for their votes in favor ofthe project.• In March 2005, a third south Texas official, David Cortez, pled guilty to fun-

neling at least $39,000 to several Willacy County commissioners from an unnamedcompany involved in the jails development.• In late May 2005, Willacy County sued two of the companies involved in the

contract, “Corplan Corrections” and “Hale-Mills”, in state district court claimingthat the companies bribed the commissioners to win the contract to build the prison.• In November 2006 David Cortez was sentenced to a three-monthterm of im-

prisonment.

The forces that push up incarceration rates

Actually, if one wants to understand the mechanism that leads to ever higher levelsof incarceration rates the bribery matter is probably of secondary importance. Thereal engine is provided by the shared interest that many parties have in building newprisons and in keeping high occupancy rates. This is best expressed by James Parkey,the President of Corplan Corrections, on the first page of thecompany’s website (31August 2009).

“Years ago, I saw the need and the opportunity corrections centers represented.Small towns were dying, losing jobs and sources of income. Yet, some of thesesmall towns were in ideal locations to qualify for federal and state requirementsfor detention centers.We approached County Judges, Mayors and City Councils and, to our delight,there was enormous interest in building a prison. Many prisons bring 150 to400 new jobs to a community. Now, there are many more communities wantingdetention centers than are available. But if your communityqualifies, CorplanCorrections will make it possible for you. We may even be ableto show youhow your community can qualify.”

Among the services provided by “Corplan Corrections” the website cites the follow-ing.• We work with State and Federal officials, have a good rapport with political

leaders and often fly to D.C. or State Capitals to make projects move forward• We will meet with your city and county leaders and with the “Public” to help

educate and “sell” the project to your community.

32 Chapter 3

Among the advantages of such projects the website mentions the following.• Additional jobs and additional sources of income for city and county.• Increased security for our nation and cities.• Political benefits.

It is of course not surprising that projects in which so many parties have an interestare indeed implemented. However, before closing this discussion we must also askwho may possibly oppose them.Clearly, we can discard illegal immigrants and other potential inmates of such de-tention centers whose opinions bear little weight in the debate. Apart from them,the only group who might object are the citizens whose taxes will fund the projects.Yet, in communities in which there is an increasing feeling of unsecurity (due to in-creased segmentation of social groups) there will probablybe a consensus in favorof more detention facilities; especially if such project can be financed through long-term loans (which were easily obtainable until the credit crunch of 2008). Thanksto cleverly designed loans the burden of higher taxes could be postponed to futureyears just as was the case for home buyers during the real estate boom.

Change in the trend of infant mortalityFig. 3.3 shows the evolution of infant mortality that is to say mortality between birthand one year of age. Infant mortality is a kind of synthetic indicator of various socialconditions such as the health of the mother, her working conditions, the healthinessof the home and so on. This graph shows the US rate relative to asample of threeother industrialized countries chosen fairly randomly. Surprisingly, in the presentcase the change in the trend occurred as early as 1950. It is inthe 1960s that the ratebecame higher than in the reference countries. In 1975 the ratio was equal to 1.45but there is no change of trend as in the previous graphs.

Increased segmentation of the American society

Why should one focus on social segmentation?

It was already mentioned that the federal tax rate was greatly reduced for rich peoplein the late 1970s that is to say approximately at the time whenmany trend changestook place. The increase in income inequality is a sign of greater social segmentation.

The changing attitude of the federal government was certainly an important factor.During the New Deal it can be said that the Federal Governmentsided with theworkers and the middle class. It is in his famous address of 7 April 1932 (thatis to say at the beginning of his first electoral campaign) that Franklin Roosevelt


0.6

0.8

1

1.2

1.4

1.6

1.8

2

1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010Infa

nt m

orta

lity:

(U

S or

UK

)/(F

ranc

e-Ja

pan-

Swed

en)

US

UK

Fig. 3.3 Ratio of infant mortality rate in the US (or UK) to the rate in three other countries. Infantmortality refers to the mortality of babies between birth and one year of age. Because this variable reflectshealth care and living conditions in all social strata, it isconsidered a significant indicator of social welfare.The graph shows that in the 1950s there was a change in the trend. The new trend displays a growing gulfbetween the US (as well as the UK albeit to smaller degree) andother developed countries.Sources: StatisticalYearbooks of the respective countries.

introduced the notion of the “Forgotten Man”:“These unhappy times call for the building of plans that restupon the forgottenman at the bottom of the economic pyramid.”

This was not only rhetoric but was matched by sweeping reforms. Many of themwere blocked by the Supreme Court especially during Roosevelt’s first presidency.For years the Wagner Act which gave so many new rights to workers and unions wasnot accepted as law by the employers because they expected itto be nullified by theSupreme Court.

However, such an explanation would suggest that the whole matter depended uponthe personality and political choices of American presidents. In short Rooseveltversus Reagan. It would be a very anthropomorphic explanation.

It might be tempting to attribute some of the changes that we listed above (i.e. lower

34 Chapter 3

educational achievements, higher infant mortality) to theincrease in income inequal-ity. Strictly speaking that would be a mistake however. Indeed, it is rather the factthat real wages stagnated or decreased which made living conditions more difficultfor low income people. If all incomes had been increasing (even though at differentrates) that would have made greater inequality almost bearable.

A closer inspection shows that the segmentation due to income inequality is onlyone (albeit a major one) of many symptoms of segmentation in the American so-ciety. From the perspective of physics it makes sense to examine the degree ofsegmentation for we know that greater segmentation basically means less overallinteraction. Listing segmentation factors is a fairly indirect method for assessinginteraction strength but it has the great advantage of beingeasy to use.

Persistence of the Black-White divide

One might think that in the wake of the Civil Rights movementsthe divide betweenAfrican-Americans and the rest of the country progressively narrowed. Completeintegration can be considered to be achieved when the statistical indicators of theminority population become the same as those of the total population, that is to saysame average income, same infant mortality, same percentage of college graduatesand so on. Here we examine one of these indicators, namely infant mortality. Fig. 3.4shows that instead of decreasing the gap rather increased. This is a surprising resultbecause for other aspects (e.g. access of African-Americans to higher education) thegap narrowed.

Perhaps is this outcome in some way connected with the factorthat we examine inthe next section

“White flight”

For over 5 decades a phenomenon commonly referred to as “White flight” has leadmiddle-class people to move from city centers to distant suburban areas. This phe-nomenon has transformed many city centers (e.g. Atlanta, Cincinnati, Detroit) intodistressed areas.

In fact, rather than aWhiteflight the phenomenon is more a move away frompoverty.Indeed, it concerns all middle-class groups whether White,Hispanic or Black. Thispoint is explained in an article by Jego and Roehner (2006).

Gated communities

Simultaneously, the development of so-called “gated communities” has provided anew form of self-chosen segregation. Gated communities areprivate areas in whichnew owners are accepted only if they fulfill certain conditions. In large-scale gatedareas like retirement communities, there may be local stores, restaurants and busi-


1

2

3

4

5

1920 1940 1960 1980 2000

Rat

io o

f in

fant

mor

talit

y ra

tes:

min

ority

/tota

l pop

Australia

New Zealand

USA

Fig. 3.4 Ratio of infant mortality rate of the minority to the total population for three countries. Thepurpose of the graph is to assess the progress in the degree ofintegration of the minority. Somewhat surprisingly,in spite of the success of the Civil Rights movement, there was little progress in the United States (at least interms of infant mortality).Sources: Statistical Yearbooks of respective countries.

nesses all within the secured area of the complex. As this notion is fairly difficultto define precisely the statistics provided by the American Housing Survey are un-certain. However, an Internet key-word search (performed in mid-November 2008)shows that the expression “gated Community” is used quite commonly as a com-mercial argument by property developers. Here are the results obtained for differentkey-words:• “gated community”: 3,870,000 websites found by Google• “exclusive gated community”: 137,000 websites• “upscale gated community”: 25,300 websites• “charming gated community”: 4,600

The self-sufficient world of US Armed forces

Since the end of World War II military and veterans live in a world where many ser-vices are provided by the army: homes, stores, schools, hospitals, sport installations,vacation resorts, funeral services. In short, the personnel of the US armed forceslives in a kind of huge gated community.

The root of this privileged status can be traced to the Servicemen’s Readjustment Actof 1944 (also called GI Bill). Its main objective was to provide college education forthe 14 million World War II veterans. Tuition was paid directly by the governmentto the chosen institutions of higher education. The veterans also received one yearof unemployment compensation. In addition they were eligible for low interest, zero

36 Chapter 3

down payment loans to buy homes and start businesses. Although the GI Bill servedas a blueprint for subsequent legislation regarding the Korean or Vietnam wars thoselater bills were more restrictive. Nevertheless, they contributed to create a section ofthe American society which is a world in its own and they gave great influence toveteran associations such as the American Legion.

Deepening gap between employers and employees

In the private sector the unionization rate dropped from about 30% in the 1950s to8% in 2007. As noted earlier, the role of labor unions has declined in spite ofa fallin real wages. In other words the sharp decrease in the numberof strikes can hardlybe interpreted as an expression of satisfaction.

From the perspective of social segmentation it can be observed that the unions pro-vided a bridge and means of communication between employeesand employers.Their quasi-disappearance has cut off this link. In a sense the present trend can beseen as a return to the situation which prevailed during the 19th century. We do notyet see the high level of confrontation between workers and employers which markedthis century but it is probably in the making.

Aging and underfunded transportation infrastructures

The Penn Central’s bankruptcy in 1970 was the final blow to long-haul private-sectorpassenger train service in the United States. The troubled line abandoned most of itsremaining passenger rail service, causing a chain reactionamong other railroads. Thefederal government stepped in and, in 1971, created Amtrak,a virtual governmentagency, which began to operate a skeleton service on the tracks of Penn Centraland other US railroads. After private-sector reorganization efforts failed, Congressnationalized the Penn Central under the terms of the “Railroad Revitalization andRegulatory Reform Act” of 1976. A subsequent attempt to create Comrail in 1987lead to failure in 1999.

In short, there remain only few (fairly obsolete) lines for passenger transportation bytrain in the United States. As a result, transportation by car (including buses) and byair became the two most common forms of transportation.

The nation-wide bus system operated by the Greyhound company is efficient but itis slow and for some reason it is little used by middle-class people.A good part of the road infrastructure is aging and deficient:13% of bridges in theUnited States (i.e. about 80,000) share the same “structurally deficient” rating as thebridge that collapsed in Minneapolis in August 2007. In addition, an equal numberare “functionally obsolete”. Of course, to make sense of such data one would needto compare them with similar data in other countries.


Decline in the membership of social organizations

According to the website of a Christian organization that tries to encourage socialgatherings32, in the late 1960s and early 1970s there has been a drop of about 40%to 50% in membership in all sorts of organizations: the PTA33, the Elks Club, theKiwanis Club, the League of Women Voters and the NAACP.

In “Bowling alone” Robert Putnam documents the loss in membership of many civicorganizations. Putnam uses bowling as an example. Althoughthe number of peoplewho bowl has increased in the last 20 years, the number of people who bowl inleagues has decreased.

Putnam found that in time of economic depression as for instance in the 1930s, mem-bership in social organizations experienced a marked decline.

Lack of communication between employees

Almost no indicators are available that could give information on the level of socialcohesion among employees. There are even few qualitative assessments. The fol-lowing testimony describes the evolution of interaction among Boeing employees. Itwas published in the Seattle Times on 30 July 200934.

“I recently worked for Boeing as a contractor on the 747-8. Before that I wasin the IAM as a assembly mechanic on the 747 for 10 years starting in 1979. Inbetween, I worked for many Boeing suppliers. When hired by Boeing back in’79, I was fully trained by experienced senior mechanics before being allowedto work on my own. When I recently returned to Boeing as a contract mfgengineer, I was shocked by how much this great company had changed over thelast 2 decades. Gone where the experienced people. Foreign contractors wereeverywhere.No one was communicatingand contractors hired to temporarilyhelpwere shunned by the SPEA direct workers. There is something very wrongat Boeing. Things have changed. In the 80’s, Boeing was constantly cited asone of the best managed companies in America. No one is sayingthat now.Boeing workers hate their management and management has lost control of theworkforce. Working at Boeing was a horrible experience and Ileft them.”

32http://www.sccquest.org/gatherings/fall05.htm33• PTA: “Parent-Teacher Association”, a voluntary organization bringing together parents and teachers.

• Elks Club: “The Benevolent and Protective Order of Elks” (also often known as the “Elks Lodge” or simply “The Elks”)is an American fraternal order and social club founded in 1868. It is one of the leading fraternal orders in the US, claimingover one million members.• “Kiwanis International” is a global organization of volunteers headquartered in Indianapolis, Indiana. It comprisesapproximately 8,000 clubs in 96 countries with over 260,000adult members (2008). Kiwanis emphasizes service tochildren and youth.• NAACP (pronounced N-double-A-C-P), the “National Association for the Advancement of Colored People” is one ofthe oldest and most influential civil rights organizations in the United States.

34This comment contains several acronyms; here are possible meanings: IAM=Integrated Area Management,mfg=major functional group, SPEA=Service Platform Enginering Associates.

38 Chapter 3

What is described is a lack of interaction among workers on the one hand and be-tween employees and management on the other hand. Hiring temporary workers(who presumably earn smaller wages than permanent workers)is a hiddem form ofoutsourcing. It may be cost effective but it is also a sure recipe for bringing aboutbad working relations. It is probably because the adverse impact of worsening la-bor relations cannot be easily assessed that management mayexpect the hiring oftemporary workers to be a satisfactory solution.

At the time of writing (8 August 2009) and in spite of the fact that the “Dreamliner”was scheduled to make its maiden fly only in 2010, Boeing was planning to establisha second production line in South Carolina. The first production line is in Everett inthe state of Washington which is the historical craddle of Boeing. For the manage-ment of Boeing one of the main advantages of the move would be that, in contrast tothe plant in Everett, the one in South Carolina would be union-free. That would atleast suppress the hostility between unionized and non-unionized employees.

Triumph of neoliberalism in finance 39

Chapter 4Triumph of neoliberalism in finance

“Hoarding has immobilized about $1.5 billion [representing 18 billion in dol-lars of 2000] of the national gold supply and has caused drastic deflation andcredit contraction. A dollar hoarded destroys 5 to 12 dollars in potential credit.A nation-wide pledge was given to President Hoover by business organizationsto convince their membership that investment in governmentbonds are as safeas the government itself and that with the creation of the Reconstruction Fi-nance Corporation [on 22 January 1932] there is less likelihood of bank fail-ures.” (New York Times 7 February 1932 p. 1)

“Credit crunch pinches struggling companies. Corporations are in the gripofthe worst credit crunch in a decade. The credit crunch is a collision between aslowing economy and the go-go days of just a few months ago, when it lookedlike almost any loan to a business was safe. The ability to raise cash has driedup for all but the most financially sound companies. It is likely to get worsebefore it gets better.” (USA Today, 5 January 2001)

The excerpts of these articles, one written during the GreatDepression the otherpublished during the recession of 2001 show that:• Credit contractions are a major characteristic of most depressions and reces-

sions.• Credit crunches start unexpectedly and abruptly; this is particularly clear in the

second excerpt. It was also true in February-March 1933 whena new wave of hoard-ing swept the United States in the weeks preceding the inauguration of PresidentRoosevelt. (see below for more detail)

During the past two decades there have been (at least) 4 credit crunch episodes,namely: 1994, 1998, 2001-2002, and finally the one which started in August 2007(more details below). Yet, the previous crises were much less serious as the last one.Of prime importance was the fact that the tricks implementedby the Treasury (e.g.injecting liquidity in banks, buying shares, lowering the Federal Reserve interestrate) which seemed to work so well in all previous crises, didno prevent big banks(such as Sears or Lehman Brothers) and financial institutions (such as Fannie Maeand Freddie mac) from facing bankruptcy. In other words, oneshould not ask whythere was a crisis but why it turned out to be so severe.

40 Chapter 4

In this chapter we examine the changes brought about in the financial sector by theneoliberal agenda. We will make this part fairly short for two reasons. (i) Muchhas already been written on the financial aspects of the crisis (ii) Because financialtransactions involve many technicalities for which the required data are not alwaysavailable, it is difficult to reach reliable conclusions.

Financial instruments are tools which can serve different purposes. Ultimately, ofcourse, the main objective is to secure a high return rate, but this involves manydifferent steps.• Finance can be a powerful control tool. This is clear for holding companies.

in this form of ownership a variety of firms are bought up, aggregated to larger cor-porations or partitioned into smaller companies and sold. Most often, this kind ofstrategy is dictated by the perspective of short-term financial profit.• At macroeconomic level one can mention the requirements imposed on indebted

countries by international organizations such as the WorldBank or the InternationalMonetary Fund. Usually, to get new loans, indebted countries were compelled toreduce budget deficit either by compressing expenses or by selling and privatizingprofitable state-owned companies.• Macroeconomic constraints often go hand in hand with control over the state’s

monetary policy.

Because such mechanisms are of ever increasing importance,we devote several sec-tions to them. This leads us to a broader discussion of how countries can influenceone another.

Aggravating factorsIt can be argued that neoliberal reforms made the present crisis more serious thanprevious ones. Among the aggravating factors, one can list the following.• The deregulation of existing financial markets that began inthe 1980s com-

pounded by the refusal to regulate in any way the new derivatives markets whichcame into existence after 1985 created an opaque world (largely based on deceit andgraft as we will see); this was an important factor in the collapse of confidence in thesummer of 2007.• Over the past 25 years the number of tax havens has more than doubled to

around 70 worldwide. Over the same period the the volume of bank deposits heldoffshore in tax shelters has risen to $ 11 trillion (The Observer 17 November 2002,Business section, p. 3).• According to the recommendations of the Basle Committee, the debt-to-equity


ratio35of banks should not exceed 11 which corresponds approximately to a capitaladequacy ratio36 of 8%. Nevertheless, major British or American banks had a ratiowhich was substantially higher: the median debt-to-equityratio of UK banks was33 with a range from 18 to 65 (Financial Times 12 Dec 2008). In 2006, that is tosay at least one year before the fall in their stock prices began, the average debt-to-equity ratio of the five major Wall Street Investment banks was 25, the highestwas Morgan Stanley at 31, the lowest Merrill Lynch at 2137. Even these inflatedfigures do not truly represent the level of indebtedness of banks because they wereable to upload much of their debt to Special Purpose Entitiesthat is to say basicallystraw institutions which they controlled but whose debt didno longer appear ontheir balance sheet, a technique that was also used by Enron Corporation with theconsequences that one knows.

The present crisis is often referred to as the “subprime crisis” but this expression isinadequate and misleading. Subprime loans were also made during previous housingbooms yet without the devastating consequences that we haveseen this time. Thisstatement can be illustrated and supported be several observations.• The run on “Northern Rock”, a major English bank involved in mortgage loans,

occurred in September 2007 that is to say at a time when UK housing prices werestill in the up-going phase. Even US housing prices had at that time declined by only5.8%. This suggests that the crisis was more a financial crisis than a housing crisis.• What we wrote about credit card laxness at the beginning of chapter 3 (of the

edition published in January 2001) became even more pronounced in subsequentyears. Between 2000 and 2006, even though Americans’ real income was essentiallystagnant credit-card borrowing rose by about 30% ; between 2003 and 2008 theprofits of credit-card companies jumped 45%. Since credit-card companies, unlikemost lenders, are allowed to change the terms of their loans at any time, people whoborrowed money at, say, 9% may be required to pay 17% some timelater. (The NewYorker 16 March 2009, article entitled: “House of cards”).• During the real estate crisis of 1990-1995 housing prices inthe west and north-

east of the United States fell by about 40%, yet without majorconsequences forFannie Mae and Freddie Mac the two big government sponsored entities. There

35An important point is how equity should be estimated? For banks the standard definition is: equity=assets-debt. Asan example, consider a bank who holds the following assets (in million of euros): (i) Cash: 10 (ii) Government bonds: 15,(iii) Mortgage loans: 20 (iv) Other loans: 55; and whose debtto depositors is 95. then the equity would be:100−95 = 5.In this example the debt-to-equity ratio would be95/5 = 19 and the equity-to-assets would be5/100 = 5%. For publiclytraded banks shareholder equity (that is to say stockmarketcapitalization) can also be a fairly straightforward measure ofequity. However, in times of panic when share prices of banksare in free fall such a measure becomes less reliable.

36The capital adequacy ratio is the ratio of equity to an estimate of the assets at risk. In our previous example the riskfor cash and government bonds would be considered zero, the mortgage loans at risk may be considered 50% of the total,while for “Other loans” 100% may be considered at risk. This gives a total amount at risk of 65 and a capital adequacyratio of5/65 = 7.7%.

37Source: Company Annual Reports, SEC Form 10k

42 Chapter 4

was only a 20% fall in their stock prices. On the contrary, during the present crisistheir stock prices began to fall sharply in October 2007 at a time when real estateprices had fallen less than 7% and they were put in conservatorship (a status similarto receivership for banks) one year later in September 2008.At that time US realestate had experienced a fall of 9.1% that is to say much less than during the crisisof 1990-1995.• Even banks which had no exposure to US mortgage securities (e.g. the Icelandic

banks) experienced great problems which lead to their nationalization.• By the end of 2008 for funds and other financial institutions the most “toxic” as-

sets were OTC derivatives (OTC=Over-the-Counter) assets that is to say derivativeswhich were not standardized products issued by an exchange but products designed,created and sold by banks on a private basis.• The globalization of financial risk sharing explains that the failure of a major

American or British bank had worldwide consequences. Although the previous hous-ing boom (and bust) was also shared by several industrial countries (Britain, France,Japan, Sweden, the United States) the bank failure remainedconfined. For instance,the failure of the Saving and Loans thrifts did hardly affectfinancial institutions out-side of the United States.

These factors gave rise to numerous sale abuses. They all shared one common fea-ture, namely that during a period which lasted several yearsand in some cases ex-tended over several decades, such sales brought huge profits38. In the followingparagraphs we describe such a case in more detail.

Abusive sales of loan insurances This case is described in an article publishedin the English newspaper “The Independent” (17 March 2009);it illustrates howcustomers were deliberately mislead by financial institutions. This problem wasaggravated by the fact that regulatory agencies failed to take corrective action.

During the real estate boom in Britain well established financial institutions39 soldprotection insurance along with real estate loans. These insurances were supposed tocover house buyers in case of repayment difficulties due for instance to unemploy-ment or illness.There were two main abuses in these insurance contracts:(i) the premiums (to be paid along with loan repayment) were very high comparedwith average market prices; it was estimated that their costwas five to ten timeshigher than what it should have been. For a mortgage a typicalannual premium wasabout 400 pounds.

38With rates over 50% and in some cases, such as the one described below, over 500%.39They arenot identified in this article; however another source names: Alliance & Leicester, Barclays, the Lloyds

Banking Group which includes Lord’s, Halifax and Royal Bankof Scotland, Regency Mortgage Corporation.


(ii) the contracts contained conditions which in practice would prevent any claim.For instance, people were warned that any pre-existing health problem would inval-idate the guarantee even if the claim was made for a reason notrelated to healthproblems. Thousands of complaints have been filled (at a rateof 800 per week) in2008-2009.

The Financial Service Authority (the British financial watchdog) did not take anyaction until early 2009. This is all the more revealing because the problem wasidentified by the FSA as early as November 2005 (see the FSA press release of 5November 2005 particularly the section entitled “FSA callson industry to improvesales practices urgently”). Some institutions were fined (e.g. a subsidiary of HSBCin January 2008 and Alliance & Leicester in October 2008) by the FSA40. Yet nodecisive action was taken until February 2009 when the FSA prohibited the sellingof loan insurances in which the premium is paid in total at thestart, the so-calledsingle premium contracts41.

Many of the problems listed above have been identified by lucid economists or evenby the media. For instance the hefty bonuses and “golden parachutes” (bonuses forexecutives who leave a company after it experienced seriousproblems) doled out totop employees have raised protests in newspapers since 2001but without any realeffect.

Similarly, the Sarbanes-Oxley Act of 30 July 2002 tried to correct some of the abusesrevealed by the Enron bankruptcy. On account of what happened in 2007 and 2008(which had many similarities with the Enron case in terms of opacity and deceit) itseems that this law was largely ineffective.This episode suggests that the problem will not be solved just by passing new laws.Unless the balance of power between reforming forces and lobbying groups changes,little will be achieved.

In summary, it can be said that the crisis which began in July 2007 was not quali-tatively different from previous crises. Credit crunches,subprime mortgage crises,real estate downturns or collapses in some derivatives markets had occurred in thepast. What was new was the fact that these problems occurred simultaneously.

Greater segmentationThe changes that we described in the previous section may seem fairly diverse. Yetthey have one common characteristic. They brought greater segmentation in financial

40These fines were in the million pound range whereas the earnings from single premium insurances were in the billionpound range.

41More specifically, in such policies the entire premium is added to the loan as a lump sum and interest is charged on it.

44 Chapter 4

markets in the sense that the “distance” between the agents who subscribed a con-tract and the institution supposed to carry out the service described in the contractincreased sometimes to the point of leaving the realizationof the contract suspendedin thin air. Several examples of such segmentations are given in a very interestingbook by Frank Partnoy (2003).• Remember that credit default swaps are a kind of insurance against the default of

a borrower. Because there were no disclosure requirements it was often impossibleto know who ultimately held the contract (on the secondary market the contract couldbe sold just like a bond) and would fulfill the service specified in the contract42.• In a sense structured finance and securitization are modern versions of a fairly

common practice namely transferring the rights to paymentsowed by borrowers.As an illustration let us consider the case of General Motorswhich grants low interestloans to its customers. When the rights to such car-lease payments (i.e. what thecar owner will repay each month) are transferred to another company or investor(let us call itC) this becomes a securitization process. For General Motorsthe bigadvantage is that these loans can be taken off its books.

There is a downside however. General Motors has some information regarding itscustomers which may allow it to estimate their capacity to repay the loan. Ideally,one may think that this information can also be transferred to C. Yet, observationshows that a good deal of information is lost in the process. For instance,C maybe a financial company which has not working understanding ofthe specifics of car-lease loans. The result will be that the ability of car buyersto repay their loans willbecome an abstract financial notion. The link between the quality of the debt and thefinancial situation of the debtors has been severed.

Of course, this problem is amplified when the rights to payment are resold byC toanother companyD, by D to E and so on.• Following the bankruptcies of Enron (end of 2001) or WorldCom (July 2002),

the bankruptcy fillings showed that these companies had several hundred creditors.Twenty years earlier companies of similar size would have had at most a dozen cred-itors (Partnoy 2003, p. 377). This was the direct result of the fact that new financialtools allowed risk to be spread on a larger scale. But again this resulted in loser linksbetween borrowers and creditors.

These three examples illustrate a general trend toward greater segmentation. Similartrends have been described in previous chapters in the social and economic spheres.

In the last two sections we listed a number of factors which explain at least quali-

42In the case of a bond this can hardly happen because the persons who ultimately hold the bonds when they come tomaturity know which institutions have issued the bond and they will demand payment. For CDS one has the oppositesituation in the sense that the last holder has to pay for the defaulted loan.


tatively why the present crisis is more serious. However, one has to recognize thatqualitative explanations are not really satisfactory. Thereal goal would be to be ableto predict themagnitudeof the crisis. To do this, one has to rely on a comparativeanalysis of other major crises with the handicap that there are of course only fewcrises of such a magnitude.

How can one follow the buildup of a speculative episode?Speculative price peaks for stock or housing prices can be identified fairly easily.

Stocks

For stocks it is well known that in a long-term historical perspective the time-averageof the ratio of share prices to annual dividends43 which are distributed to shareholdersis on average around 20. Once the average price-to-dividendratio of a stock marketbecomes higher than 30 or 40 and continues to increase one canbe almost certainthat such a situation will sooner or later become unstable and lead to a downturn.Although it is difficult to predict at what point the downturnwill occur 44 one can bealmost sure that it will happen.

Real estate

In real estate markets the analog of the price to dividend ratio is the ratio of the priceof a house or an apartment to the annual rent. It turns out thatthe long-term historicalaverage of the price to rent ratio (PRR) is also in the range 15-20. During speculativeepisodes prices usually increase much more quickly than rent levels which meansthat the PRR will go up. During a speculative episode, housing prices can double45

which implies (if we assume that the rent did not increase faster than the consumerprice index) that the PRR may have jumped to about 35. Anotherillustration wasprovided by Hong Kong between 1993 and 2001. From 1993 apartment prices weremultiplied by 2.3 In this case data for rent changes are available and they show thatthe PRR increased from 15 to 25. After the downturn of 1998, both the price and thePRR fell back to their initial level of 199246.

Can this level of 20 for the PDR or PRR be given a more intuitiveinterpretation?A PRR of 20 means that the annual rent represents 1/20=5% of the price. In otherwords, the yield of the investment will be 5%. What gives a special importance to

43The so-called price-to-earnings ratio (or PER) is also commonly used; however, if one wishes to consider this questionnot from the perspective of the company but rather from the investors’s point of view, then it is more natural to use theprice to dividend ratio (PDR).

44One can remember that just before the downturn in March 2000 the PER of the NASDAQ market was close to 200.45In London between 1996 and 2007 housing prices adjusted for inflation were multiplied by 3. This is a fairly excep-

tional case however.46A graph of these variables can be found in Maslov et al. (2003,p. 1443).

46 Chapter 4

this figure is the fact that the long-term historical yield ofinvestment grade bondsis also about 5%47. On the basis of this 5% yield of bonds, the 5% yield of sharesor apartments can be sen as a result of an arbitrage process. When the yield ofreal estate falls below 5% investors may prefer to hold low risk bonds (for instanceTreasury bonds). In other words, the 5% yield will representa kind of (long-term)equilibrium state. For a while the speculative episode may feed itself on capitalgains, but capital gains are inherently unstable in the sense that any price fluctuationmay be amplified and bring about the collapse of the bull market.

Pushing the question somewhat further one may wonder what reason may explainthe fact that the long term average of bond yields is of the order of 5%? If oneadmits that the inflation rate is low enough to be neglected inour calculation, then aninterest rate of 5% will provide an annual return of 5 cents onan euro. To get a returnof 100 cents on an euro will take 20 years. If the inflation is not low enough to beneglected but not over 2% then it may take about 30 years to geta return of 100 centson a euro. In short for a 20- or 30-year bond the total of the coupon payment will bealmost equal to the capital. Twenty or thirty years represents the time length betweentwo generations. At this point it is difficult to give a more accurate justification ofthis connection. One can only speculate that in a virtual population in which the timelength between two generations is 2 years the “natural” interest rate would be 50%rather than 5%.

Coming back to the financial crisis, one may wonder what insight can be gainedfrom the previous considerations. There were two major components in this crisis,real estate speculation and derivatives trading.• For real estate the situation if fairly clear in the sense that there were recurrent

price peaks as shown in Fig. 4.1.The mechanism outlined previously provides a fairly natural explanation for the suc-cession of these episodes. Everytime that for some reason (low interest rate, sub-stantial rent inflation48) there was an acceleration in real estate trading this openedthe way for a new speculative episode. It can be noted that this graph is restricted tothe West of the United States; this is because prior to 2000 the real estate markets indifferent regions of the United States were not synchronized; thus the national priceaverage does not show a clear pattern as does Fig. 11.1. By theway, the synchro-nization which came about after 2000 was certainly a factor which made the crisismore serious.

Bonds47As the price of investment grade bonds, that is to say low riskbonds, is usually not very different from 100, this

means that the coupon rate is of the order of 5%. For more details see Macaulay (1938).48For instance, the rapid development of the buy-to-let market was an important factor in the London housing bubble.

It pushed up prices but at the same time it depressed rents which resulted in a low return and a high PRR.


50

60

70

80

90100

200

1970 1980 1990 2000 2010

Med

ian

pric

e of

new

hou

ses

in th

e W

est (

1980

dol

lar)

(?, 0.82)

(1.64, 0.78)

(1.50, 0.81)

(1.90, 0.73 ?)

1.78% per year

Fig. 4.1: Median price of new houses in the West of the United States. The two numbers above thepeaks give the amplitude of the peak (the ratio of peak price to initial price) and the amplitude of the fall in thedowngoing phase (ratio of trough price to peak price). The whole curve has been smoothed using a three-yearcentered moving average. The value 0.73 for the last peak is based on a prediction made in Roehner (2006, p.179). Source: U.S. Bureau of Census

For bonds the analog of the price to rent ratio is simply what is called the yieldwhich is defined as the ratio of the nominal rate of the bond (also called coupon ratebecause this percentage is printed on the bond’s coupons) tothe price of the bond onthe secondary market (it is called “secondary” to emphasizethe difference with the“primary market” when the bond is offered to investors for the first time).

For investment grade bonds the price usually remains confined within fairly narrowlimits (e.g. 95 to 105). For this reason neither the price northe yield are good in-dicators for stress in bond markets. A better indicator is the difference between theyield of corporate Baa bonds and the interest rate of Treasury bonds (of same dura-tion). This indicator is referred to as the corporate bond - Treasury spread. Moody’srating scale which range from AAA for the most secure (e.g. Treasury bonds) to Ccorresponding to a bond almost in default is divided into twoclasses: the upper classfrom AAA to Baa corresponds to investment grade bonds while the lower class fromBa to C corresponds to speculative grade bonds. Thus the Baa –Treasury spreadis an estimate of how more uncertainty Baa bonds carry as compared with Treasurybonds.

The graph below shows that every time there was stress in financial markets (forinsistence as a result of a series of major company failures)the spread became larger.The peak which occurred in the fall of 2008 was particularly high. Over the period1962 to 2008 the highest peak had been in early 1983 when the spread reached 4%.

48 Chapter 4

The fact that the peak of fall 2008 was 2 percentage points higher underlines thegravity of the present crisis. In early 2009 the spread was narrowing but this doesnot necessarily mean that it will not climb again in coming months. For instanceduring the period 1980-1984 there were several ups and downs: in mid-1980 thespread reached 3%, then it decreased to 1.5% ((mid-1981) before climbing to 4%and then falling to 1.2% in mid-1984.

0

1

2

3

4

5

6

1992 1994 1996 1998 2000 2002 2004 2006 2008 2010

Yie

ld s

prea

d: 1

0-ye

ar T

reas

ury

- B

aa c

orpo

rate

bon

d

Cal

ifor

nia

bank

s +

Sav

ings

and

Loa

ns

LT

CM

Enr

on +

Wor

ldC

om

Leh

man

Bro

ther

s +

oth

ers

Fig. 4.2 Spread of investment grade bonds over Treasury bonds. The spread is the difference between theyield of Baa corporate bonds and the yield of 10-year Treasury bonds. As Treasury bonds can be considered asecurities with no uncertainty, the spread represents the equivalent in terms of yield of the uncertainty attachedto Baa corporate bonds. The graph for speculative grade bondyields minus 10-year Treasury yields has thesame shape. It reached 20% in the fall of 2008 and then declined to 16% in early March 2009. Sources:Graphs and data for spread (Internet)

Derivatives

A common feeling is that the present crisis has been aggravated by distrust in com-plex derivatives. Thus, a natural question is whether one can find an indicator whichwould permit to estimate the degree of speculation that prevailed in the derivativemarket. This not an easy question however.

There are many sorts of derivatives and they are traded in many different placesespecially if one includes over-the-market derivatives. In addition, because many ofthese products are fairly new there are few good sources. This is why it is difficult toget a clear picture of the return of such transactions. Although it is possible to givesome quantitative elements, it will be seen that they raise additional questions.

As is well-known there was a multiplication by 10 in total world derivatives out-standing contracts during the 10 years from 1998 to 2007. Howshould one interpretsuch a rapid development? One factor was certainly that derivatives were were prof-


itable especially in the 1990s. But why were these products so profitable? After allthey were only traded by trained persons (e.g. fund managers, hedge fund traders);why were they willing to buy at a price which gave a return of 30% (or even higher)to sellers. This is hardly the mark of an efficient market. Onereason may have beenthat trading in complex derivatives allowed pension funds or insurance companies tomake (in a oblique way) transactions in risky products they were not allowed to makeby law. Thus, one can understand that to some extent they werewilling to overpaythe derivatives.

According to another “theory”, the huge increase in the volume of transactions wasa parade against the decline in the profit rate of individual transactions. But beforesuch a thesis can be accepted one would need at least some datadocumenting thedecline of profit rates in the course of time. It is true that the ratio of market valuesto notional amounts fell from 3.1% in 2001 to 2.2% in 2007 (Triennial Central BankSurvey of Foreign Exchange and Derivatives Market Activityin 2007, 19 December2007), but this cannot be considered as a convincing proof ofa fall in the rate ofprofit.

Spreading neoliberalism: overlords and vassalsAccording to the Collins online dictionary a tribute is a payment made by a state toanother, usually as an acknowledgment of submission. In feudal societies it was theamount of money paid by a vassal to his lord.

Dollarization

A modern version of the tribute is the seigniorage paid to an overlord countryAby a countryB who uses the currency ofA. B is usually either a small countrywho is politically under the influence ofA or a country which experienced economictroubles (e.g. high inflation rates or inability to repay itsdebt) and had to ask forthe help ofA. The notions of seigniorage, full dollarization, unofficial dollarization,full currency board that will be explained in this section provide an insight into theinternational implications of free capital markets at the level of central banks andnational currencies. But first of all, in order to make this more concrete let us givean illustrative example.

Dollarization in Ecuador• March 1999: Ecuador is in trouble. The country’s 39 commercial banks, the targets last week

of huge withdrawals by depositors who feared the banks were on the verge of collapse, had to closeuntil the situation improves. Earlier austerity moves had frozen salaries of public workers and endedsubsidies on gasoline. Since January 1999 the value of the sucre, the national currency, has fallen indollar terms by more than 40 percent, with most of the declineoccurring last week. President Mahuad,a Harvard-educated lawyer, plans to increase the value-added tax from 10% to 15%, a measure that hasdrawn strong opposition from the Chamber of Commerce whose president declared: “You do not build a

50 Chapter 4

country with more tax increases”.There had been speculation that the president might follow the path taken by Argentina and decreeeither parity between the sucre and the dollar or outright “dollarization,” in effect abandoning the sucrealtogether. He did not take such a step, but said it is possible he may do so later.(New York Times: 13 March 1999)

• Ecuador, January 2000In 1999 the economy contracted more than 7% and the country defaultedon about half of its $13 billion foreign debt. From Jan. 5, 1996, through Jan. 14, 2000 the Ecuadoreancurrency declined 88% against the dollar President’s Mahuad’s decision to abandon the currency, thesucre, in favor of the dollar won the support of banks and manybusiness groups. The essence of thegovernment’s program is to replace the sucre, named for Ecuador’s national hero, Marshal Antonio Josede Sucre, with the US dollar.Yet, in the rest of the country there is little support for this decision. Even the military, which hassupported Mr. Mahuad in past crises, has offered only lukewarm support. The president of the CentralBank, his top two deputies as well as the bank’s assistant manager resigned to protest the president’sdecision.The new currency plan is a major setback for the International Monetary Fund. An agreement was insight for a $250 million loan. After the president’s decision the managing director of the IMF, MichelCamdessus, issued a terse declaration.Apart from Panama whose currency is the dollar since 1903, many Latin American nations already relyon dollars, to one degree or another. In Peru customers in many supermarkets can pay in Peruvian solesor in dollars. According to a World Bank official, in Argentina, a lot of the costs of dollarization havealready been incurred, so the step to full dollarization would not be great. According to an economistfull dollarization eliminates devaluation risk, and, consequently, will likely result in interest rates whichare both lower and less sensitive to crises elsewhere.Dollarization means that the interest rate will be set by theFederal Reserve in the same way as theinterest rate in the eurozone will be set by the European Central Bank. Alan Greenspan, the chairmanof the Federal Reserve, made clear that the monetary policy of the Fed wouldnot take into accountcyclical differences between dollarized countries and theUnited States. For instance an interest ratehike, intended to slow expansion of the American economy, might send Ecuador into recession.In times of conflict the United States may use the dollar as an economic weapon, withholding currencyfrom an intractable government to bend it to Washington’s will. Indeed, the Bush administration tookjust that step against Panama as part of its effort to overthrow General Manuel Noriega.Seigniorage is the difference between the production cost of coins and bills (which is low especially forbills) and the revenue obtained by the central bank by selling the currency to banks. In other words itis the revenue generated by issuing new currency. In the caseof Ecuador, seigniorage represents $30million a year. With dollarization in effect the Ecuadoreangovernment will have to buy the dollars fromthe Federal Reserve. (New York Times: 11 January 2000, 12 January 2000, 18 January 2000)

• The collapse of the Mahuad government began on 21 February 2000 when Indian protesters

marched on the national Congress in Quito. A military unit assigned to guard the building instead stepped

aside, allowing Mr. Vargas and his supporters to enter and proclaim the overthrow of Mr. Mahuad and

the dissolution of Congress. Deposed president Mahuad was replaced by the the vice-president, Mr.

Noboa who also favors dollarization.

(New York Times: 23 January 2000)

The episode of the shift to the dollar in Ecuador clearly suggests that such a movemay not be welcomed by the population. Yet, for different reasons the period 1999-2001 seemed a good time for the dollarization of Latin American countries.

(1)) The euro was introduced in banking and foreign exchangetransactions in


January 1999 and for the general public in January 2002. Thisset an example which,quite understandably, the United States were tempted to follow by creating an inte-grated American market in which the dollar would be universally accepted. NAFTA(North American Free Trade Agreement) came in effect in 1994. In this respect, oneshould recall that between 1946 and 1956 the United States greatly encouraged theformation of a political and economic union in the wake of theformation of NATOwhich was itself a response to the Warsaw Pact49.

(2)) The crisis of 1997-1998 in South-West Asia and in Russiahas shown thedevastating effects from speculation in currencies especially for small economies(one may recall that China was little affected). Dollarization has many drawbacksbut one cannot deny that it provides a protection against speculation.

(3)) Back in 1999 just before the decline of the NASDAQ marketAmerican pros-perity was at a peak. This was the time of the “New Economy”. Asa result, thefree-market ideology advocated by US economists was still in favor with most LatinAmerican economists and political leaders. The collapse ofthe Argentinian economywas still in the making. Ecuador had shifted to dollarization in 2000, El Salvador inJanuary 2001, and it was expected that Argentina, a much larger economy, wouldsoon follow suit. As observed in an article published in the New York Times on 25November 2000, these events reflected “a growing trend in Latin America to embracethe dollar as official tender”50. Indonesia explored setting up a currency board basedon the dollar in February 1998 but was convinced not to do so bythe InternationalMonetary Fund (New York Times 20 February 1998).

In January 1999, Rudiger Dornbusch, an economist at the Massachusetts Institute ofTechnology made the following observation: ”In this environment it is increasinglyridiculous to argue that every country must have its own central bank. Currencysovereignty is the right to have stagnant growth”. The same article also says that Ar-gentina was better positioned than its neighbors to reboundquickly, in part becauseoutside investors have faith that if they invest they will not face the risk of deval-uation before they get their money back. At that time some Brazilian economistswere considering whether to follow Argentina’s lead by linking the real to the dollar.(New York Times 2 January 1999).

One year later Professor Steve H. Hanke, an advocate of dollarization who served asa senior economist on president Reagan’s Council of Economic Advisors, observed:“The only way to extinguish the frequency and reduce the magnitude of recurring

49The formation of an European Defense Community was energetically encouraged by Secretary of State John F.Dulles. To no avail eventually.

50The article notes that “El Salvador’s decision to adopt the US dollar as its currency won immediate support from theUnited States Treasury Department”, an attitude in sharp contrast with the neutral wait-and-see attitude about dollarizationin Ecuador one year earlier.

52 Chapter 4

currency crises is to put these little half-baked central banks out of business.” (NewYork Times 23 January 2000).

Table 4.1 Articles about dollarizationin the New York Times (1981-2008)

1981 − 90 1991 − 2000 2001 − 05 06 − 08

article/year article/year article/year article/year

Dollarization 1.0 2.7 1.8 0.31Currency board 0.2 9.1 3.0 0.30

Notes: The table shows that both dollarization (i.e. adopting the dollar as national currency) and the establish-ment of currency boards (a milder version of dollarization)attracted US interest in the period 1991-2005. After2006 these issues were dropped.Source: The data have been obtained by using the key-word search engines available on the website of the NewYork Times.

Currency board

Hong Kong did it in 1984. Argentina in 1991. Estonia in 1992 and Lithuanialast year. Soon, El Salvador and Jamaica might do it. Brazil is studying it. Andeven Mexico sees it as a possible path to financial stability.“It” is the adoption of the currency board.Last year, Lithuania pegged its lita to the United States dollar and has seen itsforeign exchange reserves increase by 10 times. A currency board makes sensefor Mexico because of its economic integration with the United States throughthe North American Free Trade Agreement. (New York Times: article of 5February 1995 entitled “A Strong Leash for Currencies on a Rampage”)

Under the currency board system a country establishes a peg with an anchor-currency(e.g. dollar, euro or yuan). Countries that adopt such a system abandon monetarysovereignty to the central bank of the anchor-country whichmeans that interest ratesand supply of money are decided abroad. The sole responsibility of the country is todefend the value of the local currency at the fixed exchange rate, which can only bechanged by Congressional action (in the case of a currency pegged to the US dollar).In short, the only difference with dollarization is that thecountry nominally retainsits currency and the central bank (which becomes a completely passive institution)still receives seigniorage revenue by selling coins and bills to banks.

For obvious reasons the US administration has been very reluctant to openly advo-cate currency board systems. Yet, because their adoption strengthened the power ofthe Federal Reserve, it was regarded with favor by neoliberal economists as attestedby the following excerpt from an editorial published in the “National Review” (22December 1997):


Instead of abdicating responsibility, Treasury SecretaryRobert Rubin should bepromoting American interests.• First, he should press the self-strangulated Asian economies to adopt market-

liberalization measures (as, indeed, Taiwan is doing).• Next, he should endeavor to restore long-term monetary stability in Asia.

Ideally, that would mean persuading smaller Asian economies to adopt a full-scale currency board, in effect unifying their currencies with the dollar. Thatwould be better than IMF loans pegged to tax hikes.

The tone of the article of 1994 cited at the beginning of this section suggests that themultiplication of currency board pegged on the dollar is seen as a favorable develop-ment by the author51.

The aftermath of the Argentinian collapse

The decade 1990-1999 marked the high tide of the adoption of the neoliberal agendain Latin America under leaders such as Carlos Menem (Argentina) who introduceda de facto dollarization in 1992, Fernando Color (Brazil), Patricio Alwyn (Chile),Carlos Salinas de Gortari (1988-1994), Ernesto Zedillo (1994-2000), Vicente Fox(2000-2006), three successive presidents of Mexico52, Luis Alberta Lacalle (Uru-gay), Carlos Andres Perez (Venezuela). In June 1990 US President George H. W.Bush announced the “Enterprise for the Americas Initiative” with the goal of achiev-ing hemispheric free trade by 2000. NAFTA (North American Free Trade Agree-ment) which came into force in 1994 marked the first major stepin that direction.

The collapse of the economy of Argentina was a watershed. Theimplementationof the neoliberal agenda had begun after the military took power in March 1976.On the agenda were wage freezes, deregulation, free trade, privatization53, endlessborrowing (and escalating foreign debt). For a while de facto dollarization (1991)lowered inflation, attracted foreign investors and boostedgrowth. Argentina becamea show-piece of neoliberalism and globalization. As the IMF’s star pupil, the countryreceived huge credits (in the early 1990s it was the world’s fourth largest recipient offoreign funds). But the debt-driven economy began to crash in 2000.

51The article goes on to say that “after the Hong Kong dollar waspegged to the United States currency calm was re-stored and capital flight arrested”. Well, this was written in 1994, but in the fall of 1997 a huge wave of speculation triedto break the peg between the Hong Kong dollar and the US dollar. This episode suggests that currency boards are not asufficient safeguard against speculators.In an article published on the website of the Cato Institute (4 June 2003) Professor Hanke goes to the point of recom-mending an “orthodox currency-board rule” for China (PRC).Under such a proposition supply of money and exchangerates would be fixed mechanically without leaving any room for monetary policy.

52Salinas was a graduate of Harvard, Zedillo of Yale, Fox of Harvard; Fox had also been an executive and Presidentof Coca Cola Mexico from 1964 to 1979. These personal links with the United States translated into friendly diplomaticrelations; it is also an illustration of the importance of universities like Harvard, Columbia and Yale as “nurseries” ofheads of foreign governments.

53On 6 September 1992 the New York Times run an article entitles: “The big push toward privatization in Argentina”

54 Chapter 4

In a sense the mechanism of the crash was not very different from what happenedin 2008 in Britain, California, Dubai, Iceland, Ireland andEast European countries:credit scarcity slowed down the debt-driven economy and lead to the failure of over-leveraged banks; this, in turn, brought about withdrawal offunds invested on a short-time basis and pushed unemployment to high levels. During the Argentinian crisisunemployment reached 22%.

Historical roots

The first attempt to establish a currency board seems to have occurred in 1849 in theBritish colony of Mauritius in the Indian Ocean. In 1912 the system was extended toWestern Africa and in particular to Ghana and Nigeria with the creation of the WestAfrican Currency Board.

Such systems in which the monetary policy of a country is under the control of an-other was not confined to colonies, it was also used when countries defaulted ontheir debt. In such cases one (or several) representatives of the creditor nation got aseat (and a de facto veto right) in the central bank committeeof the debtor nation.Such a procedure can be seen as an adaptation to the case of a whole country of thereceivership procedure which is used in the United States for bankrupted companies.In the receivership procedure an administrator who represents the creditors takes thedirection of the board until the company is able to emerge from bankruptcy.Such a system was used recurrently by Britain and the United States in Latin Amer-ica. Several cases of this kind are described in an interesting and well documentedbook by Nearing and Freeman (1926).

Foreign economic aid as a control tool

As one would suspect, foreign economic aid is rarely grantedwith no strings at-tached. Aid programs run by the US Agency for International Development (US-AID) or by other government or semi-government organizations are often suspendedwhen a country falls out of favor with the Department of State. This can be illustratedby the following example.

On 18 June 2009 the board of the “Millennium Challenge Corporation”, a US gov-ernment development fund, announced that it would cut $62 million from a programfor Nicaragua. In its comments, the organization cited concerns about democracyand free market economy. The aid had been granted back in 2004when currentPresident Daniel Ortega was in the opposition. One remembers that the Sandinistgovernment of president Ortega had already been a target of US covert operations(support to the guerrilla war waged by the anti-Sandinist Contras) in the Reaganyears before it left power after the elections of 1990. The suspension of the aid in-terrupted construction work on three highways and hurt manyNicaraguan people. It


was announced that Venezuela would provide replacement aidthrough the “BolivianAlternative for the Americas” (Xinhua News Agency 20 June 2009).

Fig. 4. a: Logo of the US Agency for In-ternational Development. Following inthe footsteps of the Marshall plan, the US-AID was created in 1961 by the Kennedyadministration. With an assistance of $18billion in 2004 granted to Iraq, the US-AID has been a major partner in the occu-pation of this country. In 2008 the USAIDhad a budget of about $40 billion.

Fig. 4. b: Logo of the Millenium Chal-lenge Corporation. Created in 2003 byPresident Bush, this organization (also re-ferred to as the Millenium Challenge Ac-count) grants aid to countries selected onthe basis of neoliberal criteria. The orga-nization has a budget of about $2 billion.

Countries which are granted aid by the MCC are selected on thebasis of set of in-dicators among which is the “Trade Freedom” indicator created by the “HeritageFoundation” and the Wall Street Journal; in so doing, the MCCcontributed to pro-mote the neoliberal agenda in the poorest countries.

It is clear that other countries than the United States also have programs of foreigneconomic assistance, but through their sheer magnitude theprograms run by theUnited States dwarf all others. Together with the monetary policies that we discussedabove, these programs shape the political orientation of the poorest countries. In thenext section we discuss other ways and means aiming at the same objective.

Other forms of oversight and control

The establishment of a currency board gives a countryA control over the monetarypolicy of a countryB. Of course, other forms of oversight and control are possibleparticularly in the political, cultural and social spheres. The question is of interestfor our purpose in so far that it helps to explain how the neoliberal agenda has beenadopted on such a large scale and in a relatively short time span. The thesis thatwe present below could be discarded as being nothing more than a new version ofconspiracy theory. Of course it is very difficult (perhaps even impossible) to separateexogenous influence from endogenous factors. What makes it possible to test thisthesis in a scientific way is the fact that we can study it onmany different cases,thus it becomes possible to identify regularities and to make predictions. If thesepredictions turn out to be correct, it will show that the thesis may hold some truth.

The phenomenon has its roots in the years after World War II. In the wake of the

56 Chapter 4

American occupations that took place in many defeated countries as well as in a fewAllied or neutral countries54 the State Department was able to favor the emergence ofgovernments, political parties, newspapers, radios (and later TV channels) who wereboth anti-Communist and friendly to American interests. Indefeated countries sucha Germany or Japan this was done through the tight control imposed on the govern-ments which emerged during the occupation and behind the curtain of censorship.The purges performed in Germany and Japan offered an excellent opportunity to se-lect people and ensure their lasting loyalty. In countries such as South Korea (or thePhilippines) which were liberated countries this was done under the cover of martiallaw and military administration established to counter theCommunist threat55.

The occupations lasted about 6 years56. It should be noted that this was a muchlonger time span than in previous conflicts. After the defeatof France in 1815 and1871 the foreign occupation lasted only 1 or two years and during this time therewere very few (if any) attempts to control the French administration.How was it possible to extend the post-war control to the period after the occu-pation. An obvious answer is that even after the occupied countries regained theirindependence, they remained dependent on the presence of American troops for theirdefense. This was of course the case in Germany, Japan and South Korea but alsoin Britain, France (until 1967), Italy and Turkey. It is wellknown that in Japanthe Liberal Democratic Party (LDP) has been in power almost continuously sinceits formation in 1955. It is also known that from the 1950s through the 1970s, theAmerican Central Intelligence Agency spent millions of dollars in attempting to in-fluence elections in Japan to favor the LDP against more leftist, less pro-Americanparties, such as the Socialists and the Communists, although this was not revealeduntil the mid-1990s when the New York Times exposed it57.

In fact, to invoke the influence of the CIA is to take a narrow view. The bottom lineis that a country which relies on another for its defense mustfollow the lead of thelatter at critical junctures. This was the gist of the partnership between vassals andtheir overlord.An episode which occurred in France in 1946 is quite revealing in this respect. Dur-ing a crucial political meeting for the formation of a new government a motorcyclistdelivered a message from General Billotte, deputy Chief of Staff, which said that “a

54e.g.: Germany, Iceland, Italy, Japan, South Korea, Turkey.55This is true for South Korea but even in the Philippines therewere guerrilla groups which fought the domination of

big landlords. In China a similar struggle took place which however had an opposite outcome.56More details can be found in Roehner (2008), a book about the occupation of Japan.57Source: http://www.fact-archive.com/encyclopedia/LiberalDemocraticParty (Japan) Of course, such actions were

not limited to Japan. For an enlightening description of theinfluence of CIA agents (i.e. nationals who were serving theobjectives of the CIA in exchange for money or for support in their professional or political carrier) in Latin America seeAgee (1975)


Socialo-Communist government would be seen as a threat by our Allies; as a resultthey may consider reducing their commitment to guarantee our security” (Demory1995). Similar pressure was applied during the crisis whichpreceded the return topower of General de Gaulle in 1958 at least until this return was eventually endorsedfirst by President Eisenhower and finally by the State Department. There are similarexamples in Germany, Japan and the United Kingdom. For instance since the endof World War II the UK has been relying on US-made Polaris and Trident missilesfor its nuclear submarines. Moreover, the information sharing agreement betweenBritish and US intelligence agencies translates into an unequal partnership becauseof superior means and funding on the American side58.In countries such as Austria, Germany, Italy, Japan or SouthKorea which were occu-pied by Allied forces59 two of the most effective means to maintain a lasting influencebeyond the occupation period were the following.

(1) One of the first objectives of the occupation forces was toidentify, investi-gate, neutralize and control the intelligence and counter-intelligence agencies of thedefeated countries. Subsequently, when the country emerged from occupation sta-tus and tried to built up a new intelligence structure the close links established withAmerican (or British) intelligence ensured that this structure would have close linkswith US intelligence. But this was an asymmetric relation which bordered on out-right dependence. This point is illustrated in an article bySiegfried Beer (2003, sec-tion “Intelligence cooperation or dependence”). Beer’s article concerns Austria butthere is little doubt that the same situation prevailed in other occupied countries60.

(2) It often comes as a surprise that German or Austrian people who had playeda substantial role during the Third Reich nevertheless cameto occupy important po-sitions in the post-war era in organizations controlled by the US. As is well knownGerman people had to fill in questionnaires (called “Fragebogen” the German wordfor questionnaire) In the American Occupation zone, the requirement to completeFragebogen extended to all those over the age of eighteen61 . This gave the Allies anextensive data base about positions occupied by Germans in Nazi or military orga-nizations. Moreover, records of war crime trials was another source of information.Needless to say, that information could be used by the Alliesto exercise pressure onindividuals. Incriminating information could be “forgotten” or “withheld” for pli-ant people or it could be “reactivated” for the purpose of embarrassing persons whohad a tendency to go in the wring direction. In other words, the existence of self-

58Other ways and means for keeping a handle on public opinions are described in Roehner (2007, p. 145-149).59Naturally, a similar argument can be made for countries occupied by the USSR but in order to get a clear insight into

these cases one must be able to read Russian.60Beer writes: “There can be absolutely no doubt about the factthat the beginnings of Austrian intelligence after World

War II were marked by heavy, almost intolerable dependence on foreign influence.61In the British zone only candidates for public or semi-public jobs had to complete it; by December 1946 about 1.5

million Fragebogen had been completed.

58 Chapter 4

incriminating files provide a means of controlAs illustrations one can mention (i) Kurt Waldheim who was Secretary General ofthe United Nations from 1972 to 1981 and President of Austriafrom 1986 to 1992but whose military activities in the Wehrmacht unexpectedly came to the attention ofthe medias in 1986. (ii) Otto Schulmeister who as editor of “Die Presse” and “Wortund Wahrheit” was an important figure in post-war Austrian journalism. In 2009 itwas revealed that over two decades he had been working for theCIA; it is claimedthat in exchange his activity during the Third Reich were kept under the rug.

During the Cold War it was relatively easy to keep right-winggovernments in powerunder the requirement of fighting Communism. After 1990, a new strategy had to bedefined. As far as one can know, it relied on supporting pro-western youth groups.Such youth groups were established in Belarus (Zubr), Georgia (Kmara), Kyrgystan(Kelkel), Russia (Nat-Bols of Edward Limonov), Serbia (Otpor), Ukraine (Pora). Inthe case of the Otpor youth group this can be illustrated by the following excerptsfrom the New York Times.

American assistance to Otpor and the 18 parties that ultimately ousted Milosevic is still a highly sen-

sitive subject. But Paul B. McCarthy, an official with the Washington-based “National Endowment for

Democracy” is ready to divulge some details. Of the almost $3million spent by his group in Serbia since

September 1998, he says that Otpor was certainly the largestrecipient. Money went into Otpor accounts

outside Serbia and McCarthy held a series of meetings with the movement’s leaders in Podgirica, the

capital of Montenegro, in Budapest [in the north of Hungary]and in Szeged [in the south of Hungary

near the Serbian border].

At the “International Republican Institute, another Washington group financed by AID [USAID: United

States Agency for International Development, closely related to the Department of State.] an official says

that some of the $ 1.8 million the Institute spent in Serbia inthe last year was provided direct to Otpor.

(NYT, article by Roger Cohen (2000)).

The fact that the opponents to Milosevic received $ 25 million in American aid be-tween July 1999 and August 2000 (NYT 23 September 2000) does of course notprove that this money played a “crucial” role in the uprising62. A more convincingtest is provided by the fact that the article of 23 September describedin advancewhat would indeed happen two weeks later on 5 October. The article explicitly saysthat whatever the results of the election, they will not be accepted by the population,that “angry voters will take to the streets”, and that the same “people power” whichspelled the end of the Marcos regime in Manila in 1986 will similarly bring downMilosevic. The article recognizes that the crucial factor would be the attitude of thepolice and army. According to a subsequent article (NYT 9 October 2000) it was

62As a matter of fact forsingleevents it is impossible to prove anything regarding the respective roles of exogenousversus endogenous factors; it is only for a collection of events that a scientific assessment can be made. The larger thesample of events under consideration, the sharper the proofcan be made.


Velimir Ilic, mayor of the town of Cacak, who was in charge of infiltrating the policewith paratroopers of the Yugoslav Army and young policemen from Cacak.

After such groups won political contests, pro-American governments came to power.In the case of Serbia, William D. Montgomery US ambassador toCroatia made nomystery of this objective when he declared “We hope the new generation of leaderswill come from Otpor’s ranks. That would be a fair return on America’s investmentin the movement.” (NYT 26 Nov 2000)

Privatization and economic return

Once these governments were in power different reforms wereintroduced whichstrengthened the ties with the United States: privatization of state owned companies,training of the police and army by American instructors, establishment of bases espe-cially for the US Air Force. One of the clearest illustrations is provided by Georgia,but a similar trend was observed in Poland, the Czech Republic, Romania or Kosovo.

It can be argued that privatization was the most important part of that program. Acase in point was provided by the fate of the Prime minister inSlovakia. In 1989,Vladimir Meciar was chosen as Prime minister of the Slovakian part of Czechoslo-vakia by the new political party “Public Against Violence” (Verejnost Proti Nasiliu,VPN). In 1992 with his Czech colleague Vaclav Klaus he was at the origin of thedivision of Czechoslovakia into two separate countries. But in contrast to Klaus whowas an “ardent free-market reformer”, Mr. Meciar was a hard-line nationalist andopposed to the privatization of big state-owned companies (New York Times articlesof 2 January 1993, 13 February 1994). The article of 1994 was entitled “Slovakia isbalking at privatization”. Less than 3 months later Mr. Meciar was ousted from hisposition as prime minister with the support of the movement OK’98.

Role of US armed forces

It is not immediately apparent why armed force should play a role in this scenario.However, history shows that economic and financial domination is often accompa-nied by military occupation, especially in fairly weak countries. The most obviousexample was the concession system in China which lasted almost one century fromaround 1850 to 194963. Although the objectives of the western powers and Japanwere said to be commercial, their presence gradually becamea military occupation.Thus, the great powers had substantial naval forces in China; in the 1920s the Britishand US forces had 55 and 30 vessels respectively totalling 13cruisers, 24 destroyersand 23 gunboats (Source: NYT 11 April 1927 p. 2). The same scenario repeateditself in other areas. The United States have had a permanentor temporary military

63Strictly speaking the western powers who held concessions formally renounced them in 1942 but the US militarypresence ended only in 1949.

60 Chapter 4

presence in many Latin countries. Its worlwide military network comprises about700 bases and installations. The last developments occurred in Central Asia (after1992), former Yugoslavia (after 1999), Afghanistan and Central Asia (after 2001),Iraq (after 2003).

As an illustration, Fig. 4.3a presents the Bondsteel base inKosovo. Although for-mally part of the NATO force in Kosovo, it is for all main purposes an Americanbase. The other occupying powers, namely Britain, France, Germany and Italy didnot build similar bases in their respective occupation areas.

Fig. 4.3 a: Aerial view of camp Bon-steel in Kosovo.The camp was built afterthe action of NATO against Serbia in June1999. Source: Wikipedia, entry “CampBondsteel” (public domain).

Fig. 4.3 b: The five occupation zonesof Kosovo. KFOR entered Kosovo on 12June 1999 after the adoption of UN Se-curity Council Resolution 1244.Source:Wikipedia, “KFOR” (public domain).

What is the purpose of such a base? A partial answer was provided by DefenseSecretary Donald Rumsfeld during a visit to Camp Bondsteel in June 2001. Heexplained to the troops: “My view is we don’t spend in you, we invest in you. You arenot a burden on our economy, you are a critical foundation forgowth”. One monthlater, on his first trip abroad, G.W. President Bush also visited Camp Bondsteel.What then is theeconomicrole of such a base? It is often said that it has something todo with the protection of the oil pipelines which cross this area, but such an argumentis obviously inadequate. It does not make sense that the bestway to protect pipelinesis to build a base with about 7,000 troops. Two other responses can be offered:• The existence of this base guarantees that the government ofKosovo will remain

friendly to US interests.• It can provide support to other US troops in the area for instance in Afghanistan

or Iraq.However these reasons are not very satisfactory either. (i)Kosovo is a very smallcountry whose independence is not even recognized by the whole international com-munity. (ii) The United States has already large bases (e.g.in Dubai or Koweit)which are much closer to Iraq than is Camp Bonesteel. In short, we must recognize


that at this point we do not have a clear understanding of the connection which existsbetween the economic objectives of the US government and itsmilitary strategy.Ultimately, one could of course argue that as the construction and logistics of thebase was outsourced to Brown & Root Services, a subsidiary ofHalliburton, the de-cision to build it was the result of lobbying pressure, a process of which there havebeen other illustations in the past64 .

Role of domestic military forces

Complementing the establishment of military bases there are often training programsof the armed forces and police of vassal countries by the overlord country. This kindof influence appeared in its clearest form in many Latin America countries between1950 and 1990 and also in countries such as Afghanistan (after 2001), Egypt, Geor-gia, Iraq (after 2003), Pakistan, South Korea, Thailand or Turkey. In such countrieswhere the army and police were trained by American advisers and funded by theUS government they have frequently become the strongest organized forces in thecountry65. During the last four decades, whenever instability or leftist influencethreatened, the government of such countries was routinelytaken over by the mil-itary. As we know, this happened recurrently in many Latin American countries aswell as in Pakistan, South Korea, Thailand or Turkey. In a sense, in such countriesthere have been successful implementations of the scenariowhich was planned (andcarried out unsuccessfully) in China66 and Vietnam. On the whole, the successes ofsuch policies were much more frequent than the failures.

The future

Will the present economic crisis result in a weakening of this kind of influence? It isunlikely. The cost of running such operations is fairly low especially when comparedto the cost of US armed forces; therefore the funding of such programs will not bemuch affected by the crisis.

If the economic situation becomes more difficult it can become tempting to extractmore economic advantages from countries which are ruled by pro-American govern-ments. In this perspective, toppling local dictators (e.g.Milosevic or Sadam Hus-sein) can be seen as a means for replacing them by governmentswho are friendly to

64For instance the decision taken by President Gerald Ford with the approval of Congress to vaccinate thewholeAmerican population after onlyonecase of swineflu was detected in Januay 1976 was clearly unreasonable; but in spiteof being opposed by many experts and denounced in many New York Times articles, it was taken nonetheless and wasat least partially enforced in the fall of 1976. Interested readers can find more details on the Internet and in the archivesection of the New York Times.

65Shortly after its inauguration the Obama administration was planning to spend about $ 2 billion a year over the next 5years to build an Afghan armed force (army and police) of about 400,000. This funding would represent twice the budgetof the Afghan government.

66During World War II there was an extensive training program of Nationalist troops by American advisers. Thisoperation pioneered a strategy that would be re-enacted many times in the post-war era.

62 Chapter 4

US interests and willing to concede economic privileges to American corporations.There have been many historical examples of this kind in Latin American countries.

Naturally, the United States is not the only country that pursues similar objectives. Aclear illustration was given by the economic exploitation of China through the con-cession system (which prevailed from the mid-19th century until 1942 and was fol-lowed in November 1946 by an unequal economic trade agreement with the UnitedStates) in which almost all western countries took part. What makes the UnitedStates special is: (i) its unparalleled expertise in implementing such policies (ii) itsworldwide dominance. Such policies complement the neoliberal agenda in the fieldof foreign relations in the sense that free trade and open door policies are necessarilyto the advantage of the dominant partner.

Although in recent years this policy was very successful in Eastern Europe, onemay argue that it was less successful in Latin America. Indeed, in the wake ofthe economic crisis in Argentina governments were elected (for instance in Bolivia,Brazil, Venezuela) which openly questioned the neoliberalagenda and pledged tokeep American interests at bay. Will this be a lasting trend.It is still too early toknow for sure.

Why does privatization offer inroad opportunities to foreign companies?

In many Latin American countries the privatizations carried out by liberal govern-ments in the 1990s left major national companies in the handsof foreign corpora-tions, especially in promising sectors such as telecommunication, water distribution,electricity production and distribution, oil production and distribution and so on. Asimilar scenario took place in Eastern European countries.Such an outcome wasof course hardly surprising because Western countries could rely on a sophisticatedbanking sector which enabled them make competitive bids. However, this gave riseto what can be called an absentee landlord system (see Roehner 2007, chapter 8)which resulted in under-investment and mismanagement. Eventually such policiesgenerated much public discontentment.

An illustration of the absentee landownership to which privatization leads is providedby Mongolia. Although the country experienced a democraticrevolution in 1989 theformer communist party remained in power until 1996. The program of the partywhich came to power included the privatization of 60% of all state property. Whatwere the results67?• The country’s largest government owned bank was bought (a 76% ownership

by a consortium from Connecticut and Switzerland for $ 12 million.• Another major Mongolian bank was bought for $ 7 million by a Japanese group67The following information is based on an article from the NewYork Times (21 October 2003) entitled: “In Mongolia,

a tilt toward a free market”


but it is managed by American executives. It was renamed XAAN.• In 2000 the government handed management of a Mongolian bankcalled Ag

Bank to the US Agency for International Development which outsourced it to aWashington consulting firm68.• Over the following two years (i.e. 2004-2005) other privatizations were planed,

for instance the national airline, the largest petroleum importer, the nation’s largestinsurance company.

At the end of the privatization process most of these companies will be in foreignhands and owned by Western companies which have very little knowledge aboutAsia and more specifically about Mongolia. Such links are even weaker than be-tween English landlords and their Irish estates back in the 19th century. The lessonslearned from historical episodes suggest that in the long run absentee landlordship isan inefficient form of management. Yet, such a system can holdon for a long timeif it is backed by state power. In the case of Ireland the system lasted for over threecenturies.

Abstentee ownership in Eastern Europe in the next decadeThe pro-democratic revolutions in Eastern Europe can be seen as a repetition of whathappened in Latin America in the two decades 1982-2002. In the previous decade(1972-1982) several Latin American countries (e.g. Chile,Argentina, Uruguay,Bolivia) had been ruled by military dictators. Several of them were already pro-American and willing to implement neoliberal reforms; suchwas for instance thecase of Augusto Pinochet in Chile who had direct contacts with Milton Friedmanand other advisers from the University of Chicago. Once brought down, these dicta-tors were replaced by civilian governments which were also pro-American and ne-oliberal. As a result many public services (in banking, telephone, water distribution)were privatized which often brought them under the control of foreign companies.

In many cases these experiences were disappointing in the sense that they resultedin price increases while at the same time the foreign companies did not fulfill theirpromises regarding long-term investments in basic infrastructure. As already men-tioned, this outcome lead to a rejection of neoliberalism and to a more guarded at-titude with respect to foreign companies. In a sense, the crisis of 1997-1998 hadsimilar results in Asia.

It is not unreasonable to expect a similar evolution in Eastern Europe. At present(early 2009) many of the governments which came to power in recent years are

68Since, as is well known, the USAID has close links with the Central Intelligence Agency this decision had certainlya political significance.

64 Chapter 4

much more pro-American and neoliberal than their electors69. Once the failure ofneoliberal policies will become apparent, it can be expected that people will rejectthem as they have done in Latin America.

Of course, such a statement assumes that electors will be given a real choice. If themain parties in fact propose more or less the same program (aswas the case with“New Labour” in Britain) then a growing gulf will develop between voters and thepolitical parties supposed to represent them.

Previous speculative crisesIn many respects the crisis which started in July 2007 was just a repetition of similarepisodes that occurred in the past. As illustrated by Fig. 4.4 speculative bubbles haveoccurred repeatedly since (at least) the nineteenth century.

Fig. 4.4 The way to grow poor; the way to grow rich.This lithography was created in 1875 by the Americanartists Nathaniel Currier (1813-1888) and James Merritt Ives (1824-1895). It makes probably reference to theburst of a housing and railroad bubble in the fall in 1871 which lead to a financial panic in the fall of 1873.Between 1857 and 1880 the firm Currier & Ives created about 7,500 images.Source: Lithography by Currier& Ives, 1875. Library of Congress Prints and Photographs Division, reproduction number: LC-USZ62-662(public domain).

Previous “subprime crises”

More specifically, previous crises have already featured many of the issues that wehave seen in the present crisis, e.g. sharp downturn in real estate prices (see Fig. 3.1),

69In Poland and in the Czech Republic this was revealed by several surveys on crucial issues such as the war in Iraq orthe installation of anti-missile facilities; government policies were disapproved by a wide margin (60% or more).


Fig.4.5 Effect of free-trade on French farmers.This is the cover page of a French newspaper dated 30 November1884.On the left-hand side it shows a farmer facing a dire condition as a result of the fall in wheat prices. The poor“Jacques Bonhomme” (which is the archetype name of French peasants) shows his empty wallet while rats andmice eat the grain that is stored in the sacks in the background. He summarizes his situation by saying “Ca vamal” (I’m in trouble).The price fall and the slump in sales were due to imports of cheap wheat from producers such as Argentina,Canada, Russia or the United States where extensive farmingallowed lower production costs. Between 1880and 1885 the average annual price of wheat in France fell from23 franc/hectoliter to 16 franc/hectoliter, a30% fall which implied a drop of same size (or larger if sales also declined) in the income of French wheatproducers.On the right-hand size the picture shows that wealthy peopleon the contrary benefited from free-trade. It isnot exactly clear why the cartoonist targeted especially the Comte de Paris who personified the former reigningfamily.As other European countries faced the same problem, a consensus eventualy emerged which by the end of thecentury lead to higher tariff rates. This protectionist reaction became even stronger after 1925 when overpro-duction once again produced a slump in grain markets.If one replaces“cheap wheat”by “cheap labor”this cartoon describes fairly well the situation faced by work-ing people in western countries nowadays (2010). The price of what they sell, namely their working skills, hasfallen as a result of the import of cheap labor. As a parallel of the slump in sales there is an enduring high levelof unemployment in many industrialized countries.Source: Bibliotheque Nationale de France.

66 Chapter 4

no-documentation loans70, adjustable rate mortgages71, boom in mortgage-backed-securities, tightened lending standards which led to a credit crunch (New York Times18 February 1984 p. 1, 14 Jan 1990). The mortgage delinquencyrate rose to 4.15percent of total loans outstanding in the fourth quarter of 199472, collapses of mort-gage insurers73.

On 11 October 1967 a new expression made its first appearance in the columns of theNew York Times, namely the expression “mortgage backed securities”. The begin-ning of the article summarizes fairly well what was the purpose of these securities:“The Federal Government’s chief mortgage man hopes for mortgage market”. In-deed, back in 1967 there was no integratednational mortgage market in the sensethat because of regional surpluses or shortages of credit, mortgage rates used to dif-fer by as much as 2% between cities (NYT 22 Jan. 1984). In otherwords there werelocal credit crunches which lead to high credit rates. This lack of integration was dueto insufficient communication links between local markets.It can be recalled that there was a similar situation in commodity markets beforethe advent of railroads. Back in the early nineteenth century in France wheat pricedifferentials in distant cities were of the order of 50% (more details can be found inDrame (1991))74.

Even booms in mortgage-backed securities had been experienced many times in the1970s and 1980s. In an article of 1977 one can read: “One of thefastest-growinginnovations in the credit markets this year has been mortgage-backed securities”(New York Times 20 November 1977, p. F5). Detailed articles published in the NewYork Times (Arenson (1979), Berg (1984)) explain how mortgage-backed securitieswork and delineate some of the problems that may arise.

According to a figure given in Wikipedia (article “Savings and Loans crisis”) theSavings and Loans crisis of the early 1990s cost taxpayers about $150 billion whichrepresents 2.5% of the GDP of 1992. Transposed to 2008, 2.5% of GDP wouldrepresent about $300 billion. At the time of writing (March 2009) the cumulativeamount of successive bailout plans for banks represents (atleast) one trillion dollarsthat is to say three times more than the cost of the previous real estate crisis. Thisshows once again that the burst of the housing bubble is only one of the components

70Which means that loans were attributed to persons who did notshow any official document to back their incomestatements.

71Which includes loans whose interest rates were artificiallylow during the first initial years and were set to increasesharply in the following years.

72The delinquency rate includes loans that are at least one payment past due but does not include loans in foreclosure.At the end of the third quarter of 2008 the delinquency rate stood at 7.0% of all loans outstanding; the percentage of loansin the foreclosure process was 3.0 percent (Mortgage Bankers Association).

73Such as the failure of TMIC, a large mortgage insurer in February 1988 (New York Times 3 March 1988).74The situation was basically the same in other European countries and it had dramatic consequences in times of dearth.


of the present crisis.

Regulation, self-regulation or no regulation at all

The article of 1979 about mortgage-backed securities mentioned above put greatemphasis on the necessity of regulation. In 1979 real estateactivity reached a peak(at least in the West) and there was much talk about possible federal regulation. Notsurprisingly, in order to avoid federal regulation mortgage dealers claimed that theywould be able to introduce self-regulation. The “Government National MortgageAssociation” was skeptical. One of its executives made the following comment.

“We still have some doubts about whether it is possible to puttogether an ef-fective self-regulation program. It is necessary for Federal agencies to consideralternatives to self-regulation in case the program is not put into place or is noteffective”.

Responding to this concern a mortgage dealer at Salomon Brothers declared:“We have been given a chance to self-regulate; I believe it isa last chance. Ifwe don’t get something in place very soon, the game is over”.

In fact, in the following years free-market ideology gainedgreater momentum withthe result that no effective regulation, whether federal orindustry-based, was everintroduced.

A highly profitable business

Back in 1983-1984, mortgage trading had already became a very profitable businesswhich is quite remarkable because interest rates were fairly high at this time. In hisarticle of January 1984, Eric Berg gives the following illustrations.• The rise of the mortgage market has produced a bonanza for Wall Street. Nearly

every major house has expanded its mortgage-trading activity. For example 40%of the net income of Salomon Brothers in 1983 was provided by mortgage-relatedcommissions and trading profits.• In January 1984 the Savings and Loans industry was still recovering from a diffi-

cult position due to a depressed housing market from 1979 to 1982. The rapid growthof mortgage-backed securities to a total of $253 billion or 14% of the $1.7 trillionin mortgages outstanding gave them the possibility to jettison old, low-paying mort-gages even sometimes at losses of as much as 50%. In other words, the mortgage-backed securities market enabled some savings and loans to stave off bankruptcy.• One of the problems of the mortgage industry has been the possibility given to

home buyers to pay off their loans early. Freddie Mac addressed that problem by cre-ating “Collateralized Mortgage Obligations” which reduced the risk of prepayment.

All these observations suggest that the main financial innovations for mortgage mar-

68 Chapter 4

kets had already been introduced in the early 1980s and were at that time workingfairly well. In other words, the tools were probably sound and it is rather the abusesto which they gave rise which brought about the problems which lead to the financialcrisis.

State intervention 69

Chapter 5State intervention: myth versus reality

In this chapter we examine the intervention of states in the ecomomy, a topic whichis closely connected with the question of Keynesianism. Whereas the field of appli-cation of Keynesian policies is usually restricted to macroeconomic policy, in thischapter we extend it to include strategies at microeconomiclevel. We will show thatfew markets are completely free of state interventions.

The fact that the field of state intervention is much broader that what is usually un-derstood by the expression “Keynesian economics” is also emphasized by the factthat, apart from Keynes himself, many economists took an active part in developingthese ideas. For instance, the Japanese economist Takahashi Korekiyo (1854-1936)was called Japan’s Keynes. About half a century later the French economist EdmondMalinvaud (born in 1923) proposed a new synthesis between neo-classical and Key-nesian economics.

Reagarding the discussion of state inteventions there is actually a paradox in thesense that while being shuned and frowned upon by mainstreaneconomists, stateintervention and Keynesian policies are being extensivelyused by most governments.

In one of his columns in the New York Times (25 July 2009: “Why markets can’tcure healthcare”) the economist Paul Krugman pointed out that the production, saleand consumption of health care cannot be organized as a free market. His argumentcan be summarized as follows.

A significant number of Americans believe that the answer to our health careproblems is to rely on the free market. Not so. There are two strongly distinc-tive aspects of health care.One is that when you need health care it can be extremely expensive. Very fewpeople can afford to pay major medical costs [such as surgery] out of pocket.This tells you that health care must be largely paid for by some kind of insur-ance.The second thing about health care is that you cannot trust HMOs [health main-tenance organizations that is to say big companies which actas providers ofhealth care services] because for such profit-making institutions your treatmentis their cost [which means that they will deny treatment as far as possible].

The key point in Krugman’s argument is that there can be no free market for health

70 Chapter 5

care. The airliner market that we consider in this chapter isa very different market.and one in which there is fierce competition between big companies such as Airbusand Boeing. It is tempting to think that a market in which there is so much com-petition is a free market. Not so. In fact, as we will see, state intervention in manydifferent forms plays a key role in this market. Moreover ourargument and conclu-sion will be seen to apply as well to the market of many other products. Basically,this covers the markets of all products for which the design and construction phase islong and costly. One can mention for instance telecommunication satellites, nuclearpower plants, high speed trains, refinery plants, tanks, submarines.

Naturally, this does not mean that all other markets are freemarkets. To create anew soft drink is neither long nor costly. Yet this market is dominated worldwide bythe Coca-Cola monopole. In short, even markets which at least in prnciple could befree are not because of a trend toward ever greater concentration. This, however isanother story. In this chapter we have a more limited objective.

In the first part we consider the micro-economic level. It will be shown that inmany important economic sectors such as aeronautics, nuclear power plants, railwayswhich require long-term investments, government actions and subsidiesnecessarilyplay a major role. This will be illustrated here by the example of the airliner industry.In the second part we consider the macro-economic level. It will be seen that since1945 Keynesian economic stimulation has been used on a permanent basis by the USgovernment as well as by other industrialized nations.

In short, even in our time dominated by the neoliberal ideology, governments con-tinue to play a major role. Yet, there are two areas from whichthe US federal govern-ment has really withdrawn, namely the regulation of financial markets and of laborrelations. It is well known that through chronic underfunding the US Security andExchange Commission was made almost powerless. The same is true for other fed-eral organizations which were created during the New Deal and in particular thosein charge of controling the implementation of labor regulations. The consequencewas a quick deterioration in the bargaining power of unions and consequently in theearnings of workers.

In the last part I briefly describe some of the networks which supported neoliberalideas and allowed this conception to became accepted worldwide. At the time ofwriting (10 November 2008) it is the sole economic paradigm not only in the UnitedStates from where it originated but also in the Scandinaviancountries, in the Euro-pean Union and in Japan. from the European Union to Japan or toChina.

Japan’s Keynes


The era of economic reform which followed the Meiji Revolution was largely im-pulsed and monitored by the central government. In other words it was an exercisein Keynesian policy which occurred several decades before the Keynes offered a ra-tional for such policies. That reform was much in line with what was done in Franceunder Napoleon III or in Germany under Bismark.Korekiyo Takahashi was born on July 27, 1854, in Tokyo (at this time still calledEdo). At 13 he was sent to study in the United States. He returned to Japan about twoyears later shortly after the Meiji Restoration. Subsequently he became a Christian.Takahashi’s successful career in the administration started in 1881 (at the age of 27)in the newly established Ministry of Agriculture and Commerce. By 1900 he was avice-governor of the Bank of Japan. He held the position of Minister of Finance 6times between 1913 and 1936. On 26 February 1936 he was murdered (along withmany others) by radical officers. By his clever (Keynesian) policy Takahashi wasable to shield Japan from the shock of the Great Depression. Incidentally, it can bementioned that the portrait of Takahashi appeared on a 50 Yenbanknote issued bythe Bank of Japan in 1951.Keynesianism is usually considered in the framework of macro-economic policies,but in the first part of this talk I will show that the issue of state intervention is alreadypresent at the micro-economic level.

Role of government subsidies at micro-economic levelMy point here is that in some sectors state intervention at micro-level is absolutelyessential for the completion of the technical challenges faced by the industry. Obvi-ously, it would have been impossible to carry out the Apollo program without federalfunding. Similarly, although less evident, the construction and commercialization ofthe first jet airliner would have been an ill-fated endeavor without federal funding.An important word in this statement is “commercialization”. Even if a jet airlinercould be built without subsidies, it would have been too expensive for airlines tobuy it. Consequently, the very notion that a “free-market” can exist for items neces-siting heavy initial investments is a proposition which is not supported by availableevidence.

I will explain that point in more detail for the case of the aeronautical industry. Wewill see that as a rule military aircraft opened the way for similar civilian aircraft.

Civilian aircraft follow the design of military aircraft

The Boeing B-377 Stratocruiser was an airliner version of the Boeing Stratofreighterwhich in turn was the transport version of the B-29 Superfortress and of the B-50.The Stratocruiser first flew on July 8, 1947. Here are some of the specifications of

72 Chapter 5

the design, manufacturing and marketing ofairliners

1) Design phase

much reduced.

3) Marketingan attractive sale priceb) Good bilateral relations between governments speed up

a) Thanks to 1ab, 2ab it becomes possible to offer

delivery of airworthiness certification

b) The design phase requires low rate loans(wind−tunnel tests, avionics, metal fatigue, etc)

2) Manufacturing a) Previous experience in mass production of similarmilitary aircraft will help to organize the production lineb) Parallel production of military aircraft on thesame production line reduces production costs per unit

c) Government loans help to start production

Role of governments in

the length and cost of the design phase will be

c) Favorable credit rate through Import−Export bank

a) By deriving the design from a military aircraft,

Fig. 5.1: Role of government in the design, manufacturing and commercialization of airliners

WORKED WELL WORKED POORLY

B−29

B−50

B−377 KC−97Stratocruiser (tanker)

Used the wing design of the P−38 fighter.

low capability subcontractors.

Ultimately, turned out a very good aircraft.But as Douglas was short on capital,it entered into cost−sharing with

in 1966, Douglas faced bankruptcy and wastaken over by McDonnell.

Conclusion: Douglas was mainly a commercial aircraftmanufacturer; 2,400 DC−9 were built,but because it was not paralleled by amilitary model it was hardly profitable.

Douglas DC−9, certified in 1965

B−52

B−707 KC−135

B−47

(certif: 1958) (Stratotanker, 1957, >500 built)

(bomber, 1944)

(piston engine, 1947)

(Stratojet, 1949, 2000 built)

(1952, 750 built)

The British Comet met a similar fate.

First turboprop airliner in the US.Did not follow the design of a previouslybuilt military version.Lack of confidence in the design after

Lookheed Electra L−188, 1958

fatal crashes (resonance problem);only 170 built (including for Navy)

Fig. 5.2 Comparison of successful and unsuccessful airliners.

these aircraft.B-50 (military)


Fig. 5.3: Boeing C-97 Stratofreighter and Boeing 377 Stratocruiser. The commercial 377 was basically acivilian version of the C-97 and its tanker version KC-97. Federal funding received for the development of themilitary versions allowed a substantial price reduction ofthe commercial version.Source: Wikipedia (publicdomain).

Wingspan: 43.1 m; length: 30.2 m; height: 10.0 mMax takeoff weight: 78,470 kg; Maximum speed: 636 km/h

Boeing Stratofreighter (military transport)Wingspan: 43.1 m; length: 33.7 m; height: 11.7 mMax takeoff weight: 79,370 kg; Maximum speed: 603 km/h

Boeing B-377 Stratocruiser (airliner)Wing span 43.0 m; length 33.6 m; height: 11.7 mMax takeoff weight: 67,133 kg; Maximum speed: 603 km/h

As can be seen from these data and from the photographs the civilian Stratocruiserwas almost identical to the military Stratofreighter whichin turn was similar to theB-50. In other words the research, design and development cost of the Stratocruiser

74 Chapter 5

was 100% covered by government funding.

The same observation applies to the Boeing B-707, the first American civilian jetaircraft. It was almost identical to the military KC-135 Stratotanker which flew 8years earlier. The Boeing B-707 was even built on the same production line as itsmilitary version.

Fig. 5.4: Boeing B-47 Statojet and Boeing B-707.The 707 was basically a commercial version of the Stra-tojet bomber; there was also a tanker version, the KC-135 Stratotanker. The B-47 was the first 4-engine jet inthe world. It made its first flight in December 1947 about 7 years before the first flight of the 707. The latterbenefited from its military precursor in terms of technical improvement and cost reduction.Source: Wikipedia(public domain).

The case of airliners which do not benefit from subsidies

If the price level at which airliners are sold is set by aircraft whose design was 100%covered by government funding, an obvious implication is that aircraft whose designcosts were not (or only partially) covered by government funding should run intotroubles. This is indeed what can be observed.

The Beechcraft Starship As a case in point one can mention the Beechcraft Star-ship, a business turboprop aircraft for 8 passengers. It wasthe world’s first all-


composite business aircraft; 70% of its airframe consistedof plastic composite, apercentage notably higher than for the Boeing 787 (i.e. 50%). As observed by MaxBleck, the president and chief executive officer of the Beechcraft Company, the com-pany had to master a new technology, create a database listing the mechanical prop-erties of the raw materials it was going to use (resins, fabrics, tapes) and train itsworkforce. All without subsidies. What was the result?

The program cost $300 million and lasted 13 years from 1979 to1992 when the firstcommercial flight took place. Each aircraft eventually cost$5 million, about $1.1million more than planed initially and about twice as much assimilar (aluminium)business aircraft. In addition, the final version of the aircraft had an over-weight ofone ton (22% of its empty weight); as a result its seating capacity had to be reducedfrom eight to six passengers. Naturally, under such conditions the aircraft attractedfew customers. From the 53 which were built, only few were sold, the others wereleased.

In short, we have here the example of a fairly small company which takes up amajor technical challenge without any help from the state. Although many difficulttechnical challenges were overcome the resulting aircraftis too expensive for themarket75.

In a more general way the troubles can be of different kinds.• A too short design phase could result in a flawed design; this was the case of

the Lookheed Electra. It flew for the first time in 1958 but suffered from lack ofconfidence in its design after a series of accidents.• If the design phase is long enough to produce a good aircraft but the profit

margin on the sales may be too low to allow the company to reimbourse the loansmade during this phase. This is what happened with the Beechcraft Starship as wehave seen and also for the Douglas DC-9. Certified in 1965 it turned out to bean excellent aircraft (about 2,400 DC-9 were sold) but Douglas run into financialtroubles, faced bankruptcy and was taken over by McDonnel.• The Concorde, the first (and so far only) supersonic jetlinerwas a very inno-

vative design which did not follow a military design. As a result, its price was setat a level which dissuaded all airlines (except British Airways and Air France) frombuying it. In the early 1970s the price of a Concorde was abouttwice the price of aBoeing-747 ($60 million as compared with 30 million). But this high price resultedlargely from the small order book, a question that will be discussed subsequently.

Government support is important not only in the design phasebut also in the produc-tion and marketing phase. If two aircraft are very similar their production lines can

75Such a commercial disaster would have lead the company to bankruptcy if it had not been taken over by Rayton (amuch bigger company) in 1979-1980.

76 Chapter 5

be organized in the same way and the experience acquired in the production of themilitary model will prevent many glitches in the productionof the civilian model.At the marketing level the availability of low-interest loans through the US Export-Import bank (or similar institutions in other countries) will facilitate the sales.

Extending the argument

The argument that we have developed for the airliner industry also applies to otheritems which have both a military and a civilian usage. That isthe case for helicopters,jet engines, rocket engines, spacecraft, radars, and so on.For items whose designrequires a great deal of technical reasearch but have only a civilian usage (such asnuclear power plants), the available evidence shows that their design is supportedby government and their profitability is guaranteed by government regulation whichensures a stable sale price for the electricity which will beproduced during the firstyears of operation of the plant.

Other ways in which states help national companiesApart from the question of financial subsidies there are other issues in which theattitude of the state is crucial. Let us give four examples.

The Vickers Viscount

During World War II the United States developed enormously its aircraft industry.But so did also Britain, Germany and Japan Germany, as we know, was able toproduce jet aircraft fighters even before the end of the war. Yet, 10 years later by1955 the United States had an almost complete monopoly over the production ofcommercial airliners. What happened during these 10 years?

During the occupation period Germany and Japan were not allowed to develop air-craft; this interdiction concerned military aircraft as well as commercial airliners.What about Britain?

THe United States started to develop a jet bomber, the BoeingB-47, as soon as thewar ended. It made its first flight in 1947 and entered service in 1952. Yet, the firstjet airliner, the Boeing B-707 made its first commercial flight only 6 years later, inOctober 195876 . On the British side two commercial airliners, the Comet andtheVickers Viscount77 were ready to fly much earlier. How can one explain that theyhad so little commercial succes? Because the Comet had some technical problems

76How can one explain this long delay? Boeing began to The program was launched in 1952 and the B-707 made itsfirst flight in May 1954. These are fairly normal development times, so the real question is actually why the program wasnot started sooner. A possible explanation is that Boeing was kept busy by the orders that followed in the wake of theKorean War.

77The Viscount was not a jet but it was powered by a turboprop engine which made it very similar to a jet aircraft.


which may provide a possible explanation, let us concentrate on the Viscount. Tworeasons may explain why it attracted only few orders in the United States: (i) Thelong delay in its cerfication by American Aviation authorities. (ii) A campaign ofdetraction waged in the United States. On 6 April 1957, Mr. J.H. Carmicheal thepresident of Capital Airlines (the only US company who had ordered Viscount bythis time) declared that “a vicious and unethical campaign of detraction was beingwaged in the United States against the Viscount.” He said that the campaign hadbeen carried out since Capital Airlines first began using theaircraft in June 1955.However, he did not identify the source of the attacks. In spite of these attacks theViscount was reasonably successful; 400 planes were produced but it was of coursea much smaller aircraft than the B-707. Yet, it was also the last successful airlinerproduced in Britain (if one excepts the Airbus planes which were co-produced withFrance and Germany).

The Concorde

This section documents how the commercialization of the supersonic Concorde wasblocked by American authorities.

Fig. 5.5 A British Airways Concorde airliner flying in format ion with “Red Arrows” from the Royal AirForce Aerobatic Team.The show took place at the Golden Jubilee of the Queen in June 2002. In contrast tothe Boeing 377 and 707 the Concorde did not follow the design of a military aircraft but its development wassubsidied by the British and French governments.Source: Wikipedia, entry “Concorde” (public domain).

In 1972 the aircraft had received 74 orders mainly from Middle Eastern companies.At first the United States responded to the challenge by a similar project. The projectwas attributed to Boeing but Boeing gave it a low priority. How can one understandthis lack of interest in a project that promised to be a major technical innovation? Itmay be related to the fact that Boeing lost a contest to build asupersonic bomber.Being unable to repeat the operation that led from the KC-135to the B-707, Boeingknew that its profit margin on a civilian supersonic airlinerwould be found inade-quate by its shareholders.

Then, on 3 December 1970 that is to say 21 months after the Concorde’s first flightand subsequent to Boeing’s loss of interest the US Senate banned all civilian su-

78 Chapter 5

personic flights on American land routes, an action that virtually cut the wings ofthe Concorde. By the same vote the Senators required supersonic aircraft to be lessnoisy at every stage of operation than other jetliners. Six months later, on 20 May1971 (that is to say well before the rise in oil prices) funding for a supersonic airlinerwas dropped by Congress. Then, not surprisingly, on 27 October 1972 United Air-lines cancelled its option-orders for 6 Concordes and othercompanies made similarcancellations.

Whereas the aircraft had obtained its airworthiness certificate in October 1975 theban of the US Congress was lifted only in February 1977, immediately to be replacedby a similar ban from New York City which was lifted only in November 1977 thatis to say more than 2 years after certification. Landing in NewYork was a crucialissue because this was the Concorde’s most profitable route.

Are the US certification agency and Boeing too close?

It is often said that an aluminium aircraft is protected against lightnings by the so-called Faraday shield effect. A Faraday shield is an enclosure formed by conductingmaterial (or by a conductive metal mesh) which blocks out external electrical fields.For an aircraft, this is only one part of the story, however. It is true that the insideof the fuselage of an aluminium aircraft will be protected thanks to this effect. Butanother important problem is how to prevent sparks in the wings which contain thefuel. Basically sparks will appear at any place where there is a gap between two partsbetween which a high electric potential may appear.

How can this protection problem be solved for aircraft that have a graphite compos-ite airframes like the Beechcraft-Rayton Starship or the Boeing 787 Dreamliner? Ofcourse, composite parts have been used in commercial aircraft for a long time. Al-ready in 1975 a program was started to manufacture a composite stabilizer for theBoeing 737. But the “Starship” and the “Dreamliner” were thefirst aircraft in whichmore than 50% by weight of the airframe was composite78.

The protection of the fuselage can be ensured by inserting a conducting mesh be-tween the outermost composite layers to act as a Faraday cageand protect the oc-cupants. The protection of the wing tanks is a more difficult problem. In 2002 theFederal Aviation Administration (FFA) which is in charge ofthe certification of air-liners established a new set of rules for the protection of fuel tanks. According tothese rules there should be three protection layers on all fuel tank fasteners especiallythose inside the tank. After conducting an extensive seriesof tests Boeing’s engineersconcluded that the Dreamliner will not be able to meet these requirements79.

78The figure was 70% for the Spaceship and 50% for the Dreamliner(50% composite, 20% aluminum, 15% titanium,10% steel, 5% other).

79Article entitled “FAA too loosen fuel-tank safety rules benefiting Boeing’s 787, Seattle Times 8 February 2009. The


In January 2009 the FAA announced that instead of requiring three protective layersit would allow some parts to have just one. The point which is of interest from theperpective of the present discussion is that the move by the FAA has stirred intenseoppositioninside the FAA office. In a declaration delivered on 3 February 2009,the national union representing about 190 FAA engineers called the new policy “anunjustfied step backward in safety”. Only the future will tell us who was right, butwhat is worth noting is that the “FAA management contradicted its own technicalstaff in arguing that the rules could be relaxed”. It was saidthat the FAA engineerswho raised safety concerns were simply removed from the teamdeveloping the newpolicy. A Boeing internal document reviewed by the Seattle Times shows that thecompany had a team “to assist FAA in wording of interpretation” of the lightningrule for the 787 as far back as August 2004, just 8 months afterthe new jet programwas lauched.

By submitting foreign aircraft to protracted reviews (as was the case for the Comet,Viscount and Concorde) and by easing rules for domestic companies the FAA cer-tainly distorts free-market rules. To suggest that this should be avoided would be afairly naive view. Most of the FAA engineers are former Boeing engineers whichimplies that the two organizations have close relations. Asa matter of fact, such asituation is the rule rather than the exception. Similar situations and scenarios canbe expected in other countries as well. What makes the case ofthe American FAAmore important is simply the fact that the rules that it sets tend to become the normworldwide.

Anti-trust inquiries

The second case is taken from the software industry. Ten years ago an anti-trustinquiry was opened against Microsoft on account of its monopolistic position. It isclear that such a procedure can be conducted with more or lessenergy and determina-tion. It is the Department of Justice that is to say the US government which initiatesthis kind of procedure and determines up to which point it should be pursued.In conclusion, the notion that there can be a “free” market independent of any gov-ernment interference is a fiction which is not consistent with available evidence. Itcan exist in the mind of some economists but it does not exist in reality (at least notfor the items that we considered).

Answers to objections

Boeing 747

Spaceship got its cerfication in June 1988 which means that itwas not concerned by this rule.

80 Chapter 5

You may object that some innovative aircraft such as the Boeing 747 were builtwithout being preceded by a similar military design. There are two answers to thisobjection.

5.5 Lookheed C-5 Galaxy military transport aircraft and Boeing 747 airliner. Wingspan (W), length (L)and height (H) of the two aircraft are as followa: W: 68m, 60m L:75m, 70m H: 19m, 19m. They made theirfirst flight in June 1968 and February 1969 respectively. One of the main differences in their conception is theirwing design: high-wing for the C-5 vs. low-wing for the 747.Source: Wikipedia, entries “Lockheed C-5” andBoeing 747 (public domain).

Once a company is as large and profitable as Boeing was in 1966 (when the designphase of the 747 started) it is in a better position to make thebig investments requiredby such a new design. * In fact the 747 also benefited from research on militaryaircraft. It ressembles the C-5 Galaxy military transport aircraft (e.g. same cockpitlocated well above the rest of the fuselage; front-door for the cargo version). It istrue that the C-5 was produced by Lockheed and not by Boeing, but Boeing took partin the military CX-HLS (C means “Cargo”, X means that it is a research design, asfor the X-15, and HLS means “Heavy Logistic System”.) which opened the way forboth the C-5 and the 747; incidentally, the two aircraft became operational almostsimultaneously in December 1969. Another important aspectconcerns the engines.


The so-called High-bypass turbofan engines which equippedthe 747 were developedin connection with the CX-HLS project.

Airbus A320

Delivered in 1988, the A320 pioneered the use of digital fly-by-wire control systemsin a commercial aircraft. With more than 3,800 aircraft of the A320 family built(2008), it was the second best-selling jet airliner after the Boeing 737. Is this acounter example for the argument developed in the previous section? Not really.Two reasons may explain why this innovative aircraft could be sold at a price whichmade it a commercial success.• The fly-by-wire control system was developed for the Concorde albeit in analog

rather than digital mode.• Airbus benefited from low-interest loans from the European governments which

took part in the program. As a matter of fact, this fact was used by Boeing to claimthat Airbus enjoyed an unfair advantage.

Airbus A380

In 2007 when it made its first commercial flight, the A380 was the world largestaircraft. In its charter version it could carry 853 passengers whereas in its 747-400version the Boeing 747 could take only 524 passengers. As forthe A320 its de-velopment was supported by low-interest government loans and once again Boeingclaimed that it was the “most heavily subsidized airplane inhistory”, thereby forget-ting the huge amounts of funding it received from the Department od Defense.

Role of government subsidies at macro-economic levelThis part of my talk will not be new for you. We all know that government spendingcan be used to encourage or prop up some industrial sectors orareas. However,often we do not realize the magnitude of this effect. For instance, people rarelythink of World War II, of Lend-lease (during World War II), ofthe Marshall plan, ofthe Korean, Vietnam or Iraq wars in terms of subsidies to private companies. Yet,all these episodes involved big government spendings most of which translated intosources of income for American companies.I will just illustrate that point by three examples.• One might think that during World War II only industries in the military sector

profited from defense expenses. This view is too narrow however. During WWIImillions of American people were submitted to loyalty investigations for instancebefore they could get a job in a company working for defense. Asubstantial amountof these investigations were carried out by the investigation departments of creditcompanies. This is illustrated on the slide.

82 Chapter 5

2000

1950 19601940

1970

1970

1980 1990

Apollo program (1.4%)

World War II Vietnam War (3%)

Lend−Lease Marshall Plan (1.6%)

Star war (1%)

Korean War + Cold War (5%)

Buying and lending spree (2.5%)

The expenditure of the US Federal Government has been about 20% ofGDP over the past 50 years; Reaganomics did not change that.

a country with a similar federal organization.For the sake of comparison, in 2007 that ratio was 11% in Germany, Such a federal budget gives ample means of economic intervention.

Powerful federal institutions (such as the Treasury, Import−Export Bank,Fannie Mae) give the Federal Government the possibility to helpUS Corporations in many ways.

The main idea of Reaganomics, Thatcherism and neoliberalism is to

has there been a change in its interference? Answer is: Government spending has remained unchanged, we have seen,

Figures such as (1.6%) give the annual percentage of GDP spent for the corresponding program

by subsidising private companiesKeyneysian stimulation in the United States

Iraq War (0.7%)

YES

reduce government spending and stop its interference with market forces.

Fig. 5.6 Wars provide recurrent opportunities for governments to subsidy private companies.

• The financial aid provided by the Marshall plan had to be used for purchasingAmerican goods.• Since the end of the 1990s more and more services of the US Armyhave been

outsourced to private companies: transporting troops to Iraq (or taking them back


There is at least one field from which the US government has withdrawnwhich is the organization and regulation of the relations betweenworkers and unions on one hand and management on the other hand.

turned back.

The New Deal had given many rights to unions but in the decadesafter the Taft−Hartley Act of 1947 the clocks were progressively

What effects would one expect from that withdrawal?Employers have always been well organized in a number of associations,such as the Chambers of Commerce or the National Association of Manufacturers (NAM). If unions are not allowed to organize in in a similar way, they will obviously be at a disadvantage.Thus: if sympathy strikes are prohibited, if employers are authorized to recruit temporary workers during strikes,

then, of course, one would expect the weight of unions to dwindle.

Is this expectation confirmed by actual observation? Answer is:

if bankrupcies can be used as a last resort means to overrule the unions,

YESas will be seen in what follows.

Fig. 5.7 Government role in regulating the relations between employers and labor. Employers can fireemployees whereas the opposite is not possible. Thus, the balance of power is naturally tilted. If in addition,the government sides with the employers by cancelling most of the regulation introduced by the New Deal, thenemployees will be subdued and their unions crashed and suppressed.

to the US) is done by American airlines; basic services such as breakfast, lunch,dinner, household services, construction of bases and so onare provided by privatecompanies. In addition, numerous security companies (a list available on the websiteglobalsecurity lists about 25) protect Iraq’s oil pipelines or official American servicesin the so-called Green Zone.

Withdrawal of the federal governmentIn the two previous sections we have seen that the Federal Government remains veryactive in providing subsidies at both micro-and macro-economic level; this is re-flected in the fact that the Federal budget represents about 20a country with a federalstructure similar to the one of the United States represented only 11However, there are (at least) two fields from which the federal government retreated,namely the regulation of financial markets and the relationsbetween unions andemployers. These two fields had received considerable attention during the period ofthe New Deal.

84 Chapter 5

The Security and Exchange Commission had been created in 1934 but during the pasttwo decades it was made almost powerless by chronic underfunding, e.g. there wasalmost no increase in its personnel in spite of the fact that the variety and the volumeof financial operations had greatly increased. During the time he was Chairman of theFederal Reserve from 1987 to 2006, Alan Greenspan remained adamantly opposedto any regulation of derivative markets.

President Roosevelt wanted to provide a “decent standard ofliving” to all Americans;this is what he summarized under the expression of a “Economic Bill of Rights”. Herealized that this can only be achieved by improving the bargaining position of theunions. The Wagner Act signed in July 1935 was an important step in this respect. Inthe first few years of the Wagner Act many employers simply refused to recognize itas law because the United States Supreme Court had already struck down a numberof other statutes passed during the New Deal. After the Taft-Hartley Act of 1947the pendulum began to move in the opposite direction. The powers of the federalservices in charge of controlling how the regulations protecting the rights of workerswere implemented were progressively curtailed.

The key-point in this question is the fact that employees arenaturally and strategi-cally at a disadvantage with respect to employers. The laterhave influential (andwell funded) associations such as the National Associationof Manufacturers. Theyhave most of the medias on their side. Consequently, if the government also sideswith them, employees will face certain defeat in any social conflict. If employerscan recruit temporary workers during strikes, if bankrupties (under Chapter 11) canbe used as a last resort means to overcome the opposition of unions and workers tosalary and benefits cuts, if labor is plentiful because of an influx of immigrants, thenof course the unions will lose one battle after another. Eventually, the balance ofpower will become so defavorable to them that strikes will become useless.

The results of such an evolution can be seen on the graph of Fig. 2.4 which showsreal weekly wages as well as the number of strikes. By 2005 strikes have becomealmost inexistant and the real wage is lower than in 1975.

The promotion of the neoliberal agendaIn the field of economic studies the neoliberal agenda is currently being promotedby a network of websites (see chapter 6 of my book: “Driving forces”). How arethese websites funded and who subsidies the conferences that they organize in costlyhotels? Nobody knows because, in contrast to political parties, such associations donot have to publish their funding sources .

However, there have been organizations such as the Mont Pelerin society promoting


this agenda well before the Internet era and in fact since thetime of the New Deal.

Table 5.1 provides a link between the presidents of the Mont Pelerin Society andNobel prize winners; it suggests that such associations have been able to shape thefield of economics in a very effective way.

Table 5.1 The Mont Pelerin SocietyThe Mont Pelerin Societywas the main organization for promoting neoliberal ideas amongeconomists. It was founded in 1947 by Friedrich Hayeck.Of the 23 economists who served as president of this society between 1947 and 2004, 5 became Nobelprize winners shortly after the end of their terms as president as can be seen from the following table.

Presidents of the Mont Pelerin Society who won Nobel Prizes

Name Term as president Nobel prize

F. Hayek 1947 − 1961 1974

M. Friedman 1970 − 1972 1976

G. Stigler 1976 − 1978 1982

J. Buchanan 1984 − 1986 1986

G. Becker 1990 − 1992 1992

Notes:• The French economist Maurice Allais (Nobel prize in 1988) attended the first meeting of the Mont Pelerin

Society and was one of its founding fathers but he did not serve as president.

• Three other prominent members of the Mont Pelerin Society were Ronald Coase, Vernon Smith and Erik

Lundberg. Coase and Vernon became Nobel laureates in 1991 and 2002 respectively. Lundberg was a Swedish

economist who held the following positions: (i) President of the Swedish Bank (ii) Member of the Nobel

Committee for Prize in Economic Science from 1969 to 1979 (iii) Chairman of this committee from 1975 to

1979.

One must keep in mind that economics is still a field in which significant empiricaltests of theories80 play a very modest role. Consequently ideological reasons andplausibility arguments play a prominent role. As an illustration one can mention thefact that the books written by Friedrich Hayek contain almost no empirical data and,to our best knowledge, the statements which are made have never been tested on realdata. Whereas the Nobel prize in physics has always been awarded to discoverieswhich had stand the test of experimental observation, in economics this has rarelybeen the case.

80We would not label the standard econometric methodology of model testing as being “significant”. A model shouldbe tested in agreat variety of situationsand not just in one as is the standard procedure.

86 Chapter 5

By awarding Nobel awards to neoliberal economists, the Bankof Sweden (“SverigesRiksbank”) which instituted the Prize in 1968 promoted thispolitical philosophy atthe expense of other possible orientations. Moreover, by rewarding so many untestedtheoretical investigations the Nobel Committee can hardlybe said to have contributedto making economics into a more scientific and reliable discipline.

Is there a way out? 87

Chapter 6Is there a way out?

It was said that Reaganomics was a Trojan horse for the rich. Under the cover of anew tax policy, tax rates on top brackets were drastically reduced from 70% to 35%.In a book published in 1986, David Stockman, Ronald Reagan’sbudget director,writes that the main purpose of the tax reform was to bring down the tax rate on upperincome brackets and that to make the reform palatable as a political matter it had tobe presented as a new bold economic approach called supply-side economics81.

In previous chapters we pointed out that the main themes of neoliberalism (which isthe global version of Thatcherism and Reaganomics) includemany demands whichhave been on the corporate agenda for decades. If we accept this assumption it mustbe possible to find other historical episodes during which neoliberal policies wereeither dropped or re-introduced after having been abandoned for a while. It is thepurpose of this chapter to present and briefly discuss such episodes. We will describefive episodes.

(1)) The crisis of 1893-1897. This crisis is interesting because it has some sim-ilarities with the present crisis. It started as a financial crisis, became an economiccrisis and ended in what is called the progressive era which was marked by a kind ofNew Deal. It was the time of Theodore Roosevelt’s “Square Deal” 82.After World War I the decade of the 1920s was again a period of frenzy and specu-lation marked by an advance of neoliberalism.

(2)) The transition from the neoliberal agenda to the New Deal agenda in 1932-1933 in the wake of the Great Depression.

(3) The resistance against the implementation of New Deal policies in the period1933-1938.

(4)) The post-war period after the death of President Roosevelt in 1945 (at thebeginning of its fourth term) and the end of the war economy was marked by a seriesof defeats for unions and labor. After 1947 with the buildup of the Cold War the

81In contrast Keynesian policies rely on stimulating demand and consumption and because lower-income earners spenta much larger proportion of their income than high-income earners they recommend to lower tax rates for cash-strappedhouseholds. Supply-side economics relied on the development of entrepreneurship and on the implicit assumption that “arising tide will lift all boats”.

82In many respects T. Roosevelt’s Square Deal prefigured F. Roosevelt’s New Deal. In 1906 he convinced Congress tocreate the “Interstate Commerce Commission” to regulate interstate railroad rates. It was the first true federal regulatoryagency.

88 Chapter 6

progressive forces who had supported the New Deal suffered even greater blows. Theeconomic effects of these setbacks were not immediately apparent because globallyit was a period of great prosperity. For instance real wages continued to increase forabout 20 years.

(5)) At the beginning of his term in the spring of 2009, president Obama gaveseveral signals which suggested that neoliberal policies were no longer favored. Atthe time of writing (April 2009) it is still too early to say ifthese signals will openthe way to new policies. However, the evidence currently available suggests that thepresident has opted for going along with business lobbies rather than to oppose them.

Situation in 2009Before examining these episodes, it may be useful to have a brief look at the situationin 2009 that is to say at time of writing.

In many respects the world in which we live has become more unipolar. The term“unipolar” is usually used to describe the post-1991 world which is dominated byone superpower. It is not only politically that our world hasbecome unipolar but alsosocially and economically. In the field of economic researchMarxist or Keynesianconceptions have been swept away. In western countries the medias (newspapers,radio, television channels, Internet) are dominated by a few huge companies andeven the few (more or less) independent companies which remain are following inthe footsteps of the big corporations. As a case in point one can mention the Frenchnewspaper “Le Monde”. Twenty years ago, it was trying to provide a fairly indepen-dent and objective view; nowadays, it follows other medias in their most frenziestcampaigns even at the cost of relaying news of most doubtful reliability.

Yet, there are nevertheless some signs of resistance to the new order. The problem isthat for the time being this resistance takes the form of refusals and rejections, not ofcounter-paradigms. This is illustrated in Fig. 6.1.

Crisis of 1893-1900The depression which began in 1893 had some common characteristics with thedepression which started in 2008.• In 2008 many US banks had to be bailed out by the government. In1893 many

banks and railroad companies had to be bailed out by the government. For instanceon 16 August 1893 the Northern Pacific Railroad was placed in the hands of receivers(after having been declared in bankruptcy)for the third time.By February 1994 onesixth of the railroad mileage had passed into the hands of receivers (NYT 27 Feb


Fig. 6.1 Billboard against Wal-Mart in the United States. The background sentences in blue say: “Moretraffic, rising crime, local job loss, tax payer subsidies for health care”. The last contention refers to the factthat the wages paid by Wal-Mart are low enough for health carecoverage to be provided by “Medicaid”, whichis a federal program for low income households.This photograph was taken on 19 June 2005 on Staten Island which is located about 10 km to the south ofManhattan. Around this time there were also programs on the television channel PBS (Public BroadcastingService) which exposed some of the adverse social and economic consequences of Wal-Mart managementmethods in the United States, for instance the fact that it prohibits unions and employs illegal immigrants; inthe second case this was laid on local managers who, allegedly, acted without explicit approval from Wal-Martheadquarters.

1894 p. 4).• In 1894 as in 2008 the situation of many banks was beleagueredby recurrent

writedowns. An article of the New York Times of 13 August 1893observes: “Com-mercial bank directors are not hopeful. A good deal of the paper is reputed worth-less”. Two months later one reads the following judgment: “The most reckless andunscrupulous methods may be pursued by the directors of a bank until the institutionhas been plunged into bankruptcy” (NYT 25 Oct 1893 p. 4).• As can be seen from Fig. 6.1 the initial increase rates of unemployment were

fairly parallel for the two depressions.

Needless to say, it would be pointless to compare the two depressions in a global way.What would make sense is to comparespecific aspects. For instance it could be in-teresting to compare the evolution of delinquent mortgagesin the two episodes. It isnot possible to develop such studies within the framework ofthe present publication,but we intend to do so in a subsequent paper.

90 Chapter 6

0

2

4

6

8

10

12

14

16

18

20

1890 1892 1894 1896 1898 1900

Une

mpl

oym

ent r

ate

(%) 2006 2008 2010 2012 2014 2016

Depression of 1893Depression of 2008

Fig. 6.1 Unemployment in 1890-1900 on the one hand and in 2006-2009 on the other hand.As explainedin the text the depression of 1893 had several common points with the depression of 2008. A 3-point movingaverage was used to smooth the curve for the depression of 1893. Source: Unemployment data for 1890-1900are from Lebergott and Romer series cited in Wikipedia, entry: “Panic of 1893”.

1932-1933: Runs on banks, closing of the Stock ExchangePresident Roosevelt’s inauguration took place on Saturday4 March 1933. The NewYork Stock Exchange closed on Friday night83 and remained shut until Tuesday 14March. During these 10 days there was also a banking moratorium which means thatmost banks were closed. This, in a nutshell, illustrates thedramatic circumstancesunder which the new administration began to work.

Chronology 6.1 Events before and after President Roosevelt’sinauguration on 4 March 1933

Runs on banks and hoarding of currencies have been common features since (at least) mid-1931.

However, in 1931 and 1932 only small amounts of gold were sentabroad. On the contrary the new

run on the banks which started in mid-February 1933 resultedin a huge outflow of gold.

As always it is difficult to say what triggered this movement.Was it a reaction of defiance against

the reforms planned by the new administration or was it a panic due to deteriorating financial condi-

tions?

In response to this situation President Roosevelt took drastic emergency measures in the first days af-

ter his inauguration. Hoarding of gold was forbidden under threat of heavy penalties. The prohibition

against holding gold was only lifted by President Gerald Ford.

1932, Feb 4 President Hoover appealed to the country to cease the hoarding of83At this time the NYSE was normally open on Saturday; the only weekly closing day was Sunday.


currency, as a patriotic move toward loosening credit. Hoarded funds wereestimated by the President at $ 1,300 million every dollar ofwhich, he said,meant the destruction of from $ 5 to $ 10 of credit.(NYT 4 February 1932, p. 1.)

1932, Jun 4 Wall Street celebrated the advent of a $100 million pool established byNew York’s largest banks. The pool should begin to function this week. Themoney is to be invested in sound securities, stocks as well asbonds. As a result,over the last two days there was one of the wildest advances inthe history ofthe Stock Exchange.(NYT 4 June 1932, Financial and Business section p. 5F.)

[This investment pool can be put in parallel with the stimulus plans that were adoptedin late 2008 and early 2009. $100 million of 1932 would represent $1.5 billion of2008. The amount involved in present-day stimulus plans hadbeen at least 500 timeslarger.]

1933, Feb 13Situation in real estate. Efforts to help the real estate situationwhich is one of the worst problems now besetting the United States resultedthis week in the formation of the “Realty Stabilization Corporation” for NewYork city which is to borrow $100 million from the “Reconstruction FinanceCorporation” in order to finance mortgages.(Times 13 February 1933 p. 19.)

1933, Feb 15With morebank failures there has been a recurrence of hoarding bynervous people. All the banks in the state of Michigan have been closed for oneweek which means a moratorium for all business transactions.(Times 15 February 1933 p. 19.)

1933, Feb 27Runs on banks in different parts of the United States increased innumber. Ten states have already enacted moratorium legislation. Congress hasamended the “National Bank Act” so as to allow national banksunder conditionof approval by the Secretary of Treasury to withhold from depositors (for aperiod of 6 months) all but a small fraction of their balance.Hoarding did not confine itself to currency (as was the case inlast year’s crisis)but also resulted in the hoarding of gold. This is probably due to the feeling thatthere will be a depreciation of currency.(Times 27 February 1933 p. 19.)

1933, Mar 2 Injection of public money into the financial system. The “Recon-struction Finance Corporation was formed in February 1932 to protect banks,insurance companies, railways and other corporations in difficulty by the use ofgovernment credit. The amount of the advances that it was called upon to make

92 Chapter 6

has exceeded all expectations; it totaled $2 billion [in dollars of 2000 this wouldrepresent about $28 billion]. Among the factors which brought about this crisisone can mention:(i) Prices of shares and land were pushed to heights out of allrelation to anyreturn which could be expected from them.(ii) American banks lent money freely and themselves embarked upon highlyspeculative operations.(iii) Everyone was encouraged to speculate on margin that isto say with bor-rowed money.(Times 2 March 1933, p. 13.)

[When one reads the factors to which the Times ascribes the financial crisis whichlead to the Great Depression it is tempting to draw a parallelwith the current crisis.]

1933, Mar 4 The New York Stock Exchange closedon this day which is a Sat-urday whereas in normal times it used to be open on Saturdays.It will remainclosed during 10 days that is to say until the end of the Banking moratorium onMarch 15.(Farrell 1972.)

[Similarly, there were high expectations after the inauguration of president Obamain January 2009.]

1933, Mar 4 Americans are a people of invincible hope. But seldom can theireagerness to see a new President inaugurated have equaled that of this year. Itis a delayed realization of what they have been carrying in their hearts since lastNovember.(NYT 4 March 1933, p. C12.)

1933, Mar 4 Excerpt of the inaugural address of President Roosevelt.“Prac-tices of the unscrupulous money changers stand indicted in the court of publicopinion, rejected by the hearts and minds of men. Faced by failure of credit theyhave proposed only the lending of more money. Stripped of thelure of profit bywhich to induce our people to follow their false leadership,they have resortedto exhortations, pleading tearfully for restored confidence. They know only therules of a generation of self-seekers. They have no vision, and when there is novision the people perish.The measure of the restoration lies in the extent to which we apply social valuesmore noble than mere monetary profit. Happiness lies not in the mere posses-sion of money; it lies in the joy of achievement, in the thrillof creative effort.The joy and moral stimulation of work no longer must be forgotten in the madchase of evanescent profits[. . .]

There must be a strict supervision of all banking and creditsso that there will


be an end to speculation with other people’s money.[. . .]In the event that the Congress shall fail to take one of these two courses, Ishall ask the Congress for broad Executive power to wage a waragainst theemergency, as great as the power that would be given to me if wewere in factinvaded by a foreign foe.”(http://www.historyplace.com/speeches/fdr-first-inaug.htm.)

[It is not uncommon for a president to make similar pledges. Because the “practicesof unscrupulous money changers” have never been very popular in any country, itis an easy way to rally a broad support. What differentiated President Rooseveltfrom his predecessors is that these promises were seconded by acts. During thefirst “Hundred Days” 15 major laws were passed, among which one can mentionthe Farm Relief Bill, the Civilian Conservation Corps whichwould provide work to250,000 young men or the law establishing the Tennessee Valley Authority to bringhydro-electric power and flood control to 7 southern states.Other laws addressedthe problem of home mortgage foreclosures which was causingAmericans to losehomes at a rate of 360,000 per year. In the last sentence the president warns theCongress that if needed he is ready to ask for special war timeexecutive power.]

1933, Mar 5, 11 pm The President’s Bank proclamation.WHEREAS, there have been heavy and unwarranted withdrawalsof gold andcurrency from our banking institutions for the purpose of hoarding;WHEREAS continuous and increasingly intensive speculative activity abroad inforeign exchanges has resulted in severe drains on the nation’s stocks of gold;Because of this state of emergency the law of 6 October 1917 will again beput in force. Under this law the penalty for hoarding by natural persons isimprisonment for not more than 10 years.(NYT 6 March 1933 p. 1.)

1933, Mar 6, 9 The two steps in the prohibition of gold hoarding.(i) On March 6, taking advantage of a wartime statute that hadnot been re-pealed, president Roosevelt forbade the hoarding of gold orsilver (in bullion orcoins) under penalty of 10 years of imprisonment or/and $ 10,000 fine.(ii) On 9 March Congress incorporated the penalties of the wartime statute intothe Emergency Banking Act.(NYT 6 Apr 1933 p. 16.)

1933, Mar 27 For several past months there has been a substantial transfer of assetsfrom New York to London which can be estimated at about $ 160 million.(NYT 27 March 1933 p. 23.)

1933, Mar 28 During February 1933 there has been analarming drop of the goldreservesof the banks of $558 million. In the first days of the Rooseveltadmin-

94 Chapter 6

istration, orders were sent to the Treasury (under the Emergency Banking Act)to compile a list of all persons who had withdrawn large amounts of gold inthe last two years without apparent business reasons for doing so. The Treasuryfirst asked the commercial banks through the Federal ReserveBanks to forwardthe list by March 13. Subsequently the deadline was extendedto March 27.What action the government will take toward the persons who have not returnedtheir gold has not yet been announced.It is expected that the government define what it considers tobe hoarding afterwhat a rule will be laid down by which the Department of Justice may prosecutehoarders.(NYT 28 March 1933 p. 27.)

[On 27 March 1933, the Federal Reserve Banks had a store of gold of only $503million; this shows the magnitude of the withdrawal.]

1933, Apr 6 The amount of gold still in hoarding can be estimated to about$1,000.How much of this is in foreign countries and how much is in the United Statescan hardly be known.(NYT 6 April 1933 p. 1.)

1933, Apr 6 The executive order issued on April 6 affirms that the national emer-gency still continues to exist [in spite of the end of gold outflow] and sets outin more detail the government prohibition against hoarding. All persons are re-quired on or before May 1 to deliver to a Federal Reserve Bank gold in coinsand bullion or gold certificates now owned by them. They will receive lawfulmoney in return.The penalties remain as set by the President’s first proclamation.(NYT 6 April 1933 p. 16.)

[In the Donald Duck cartoon stories there is the character ofdear Uncle Scrooge84

(“oncle Picsou” in the French version) who swims in a pool full of gold coins. Thischaracter was created in 1947 at a time when it was still illegal to hold gold.]

1933-1938: Opposition to New Deal policyIn most historical accounts of how the New Deal policy was implemented one aspectis often under-reported, namely the bitterness of the resistance put up by businessinterests and in particular by the “National Association ofManufacturers” (NAM)and the “United States Chamber of Commerce” which were the two most powerfulassociations lobbying for business interests.

84A scrooge is an ungenerous person; Ebenezer Scrooge was the protagonist of a novel by Charles Dickens.


As a matter of fact, pro-union regulations were not implemented for years becauseemployees were expecting that they would be voided by the US Supreme Court in thesame way as the “National Industrial Recovery Act” was declared unconstitutionalin 1935. Resistance to the New Deal policy one the one hand andincreasing popularsupport for the reforms on the other hand lead around 1935 to what is called the“Second New Deal”. It was markedly more pro-labor than the first New Deal.

There can be little doubt that by 2009 similar reforms would elicit even more pow-erful opposition. The greater concentration of newspapers, TV and radio channelsin the hands of a few big corporations would make the make the struggle for publicopinion more asymmetrical and unbalanced than in the 1930s.

As will be explained in the next section, the pendulum began to move in the oppositedirection almost immediately after the death of President Roosevelt in April 1945.

1946: Anti-New Deal reforms after World War IIAs a general rule, wars put workers in a better bargaining position for the simplereason that they bring about a shortage of labor. This was particularly true duringWorld War II in the United States. Some 12.5 million Americanjoined the armedservices in a time when plants were operating at full capacity to fulfill war supplyplans. The same effect had been observed during the Civil Warand during the FirstWorld War. What made it particularly strong in World War II isthe fact that PresidentRoosevelt supported the advancement of the rights of workers.

Broken promises

On 11 January 1944 in a speech delivered in Congress President Roosevelt definedan“Economic Bill of Rights for the American People”85:

In our days these economic truths have become accepted as self-evident:• The right to a useful and remunerative job.• The right of every family to a decent home.• The right to adequate medical care.• The right to adequate protection from economic fears of old age, sickness,

accident, and unemployment.• The right to a good education.

Many of these objectives were dropped within a few years. So radical has been thechange in theZeitgeistthat by 2009 the very notion of a bill of economic rights seemssomewhat weird and utopian. There is still much talk about “human rights” but whatis to be understood under this expression seems to have been seriously squeezed.

85This speech was made one year before President Roosevelt’s death.

96 Chapter 6

Fig. 6. a Cartoon about opposition to the New Deal policy in 1935. The person who writes on the wallsymbolizes the American Liberty League (which is written onhis back) an association of business leaders whoopposed New Deal policies. On the sheet of papers that he holds in his left hand are the following names: JudasIscariot, Cain, Jesse James (famous American outlaw who hasbeen portrayed as a kind of Robin Hood), theJukes family (a family of outlaws who lived in the 19th century and was studied by an American sociologist),Jack the Ripper (pseudonym given to an unidentified serial killer active in London in late 1888), Public enemyNo 1. Similar pictures drawing comparisons between President Obama and Hitler have been published in 2008and 2009.Source: Published in the New York World-Telegram, the cartoon was reproduced in Wolfskill (1962).

Already during the war, in June 1943 Congress passed the repressive Smith-ConollyLabor Act, a forerunner of the Taft-Hartley Law, over the veto of President Roosevelt.

After the war business organizations tried to turn back the clock. The Cold Warwhich began almost immediately after 1945 was instrumentalin this respect. In fact,


Fig. 6. b Picture drawing a parallel between President Obamaand Hitler (left) or Lenin (right). Thisis just one example of a series of pictures which offered a parallelel between President Obama and ChancellorHitler. The comparison with the previous figure shows that such a parallel is a fairly permanent element inthe repertoire of the American right (in the sense the term “repertoire” is used in Roehner and Syme (2002)).The great difference with 1935 is that by this time PresidentRoosevelt had indeed carried out an importantprogram of structural reforms whereas in mid-2009 President Obama was still struggling to pass his first mainreform plan namely the restructuration of the health care system.Source:The picture has been reproduced onmany websites, e.g. http://scatterplotshooting.worldpress.com or http://snappedshot.com/plugin/tag/obama.According to the inscription in the right-hand side margin the initial design was due to J. Michael Haynes (wewere not able to locate this mame on the Internet). Note that there is a typo in the sentence at the bottom of theposter.

business began to advocate for an end to the New Deal even before the end of thewar. The objections of the NAM were mainly directed against the Wagner Act andthe Temporary National Economic Committee (TNEC).

One of the main activities of the TNEC. was to enforce anti-trust legislation and in1942 the NAM published a massive refutation (830 pages) of the arguments of theTNEC (Scoville et al. 1942). In mid-1943 NAM officials calledfor a governmentcommitment to a return to free enterprise in the post-war period (NYT 22 Jun 1943p. 27). At the end of 1944, the NAM adopted a 6-point program whose themes werebasically those of Friedrich Hayek’s bookThe road to serfdom(NYT 8 Dec 1944 p.1).

The message against government intervention was repeated relentlessly in the late1940s. Between 1946 and 1950 the NAM distributed 18 million pamphlets thatpushed anti-New Deal, anti-union and anti-communist sentiments. A cartoon serviceserving more than 3,000 weeklies disseminated cartoons that humorized the NAMtheses. For instance, the forgotten man that Roosevelt popularized in his speeches isrepresented as a tattered taxpayer. The NAM also produced radio programs (e.g. theFamily Robinson) and movies and it run vast national billboard campaigns (Ewen1996) .

98 Chapter 6

As a sign of a burgeoning anti-union campaign one can mentionan advertisementinserted in the New York Times of 25 Septeber 1946 (p. 23) by the “Employers’Industry Wage Scale Committee”. Covering about one third ofa page, it was runningthe following headline:

The Trucking Strikeis Affecting You

and every Resident of New York

The arguments developed in the rest of the message were quitestandard: (i) NewYork truck driver wages, it was said, were already 20% higherthan in other cities[but the rent of apartments was probably also substantiallyhigher in New York thanin other cities.] (ii) The Union has rejected the proposals of the employers. (iii) Itis the public which will eventually pay for the higher wages [curiously enough, thisis rarely (if ever) mentioned in newspaper articles in relation with the salaries of topexecutives which, as is well known, have experienced huge increases in the past twodecades].

In the same issue of the New York Times (p. 22) one can say a photograph of GeorgeL. Mueller, president of the “Powers Workers Union” as he wasbeing led to prisonafter being sentenced to a term of one year for contempt of court. At the audienceto the judge’s question: “Do you refuse to call off this strike as far as any authorityof yours is concerned?”, he had answered “I do”. On this replyhe was immediatelysentenced for contempt.

One should recall that Secretary of Commerce, Henry Wallacewas fired by Presi-dent Roosevelt on 20 September 1946. Wallace who had been vice-president from1941 to 1945, favored cooperation with the USSR which had also been the policyof President Roosevelt until his death86. It was said that Wallace was the last NewDealer to leave the government. So, September 1946 was a realturning point.

Such pressure and campaigns proved indeed effective. The development of unionswhich had been so strong before and during the war was curtailed was curtailed. Alandmark date was 23 June 1947 when the United States Senate followed the Houseof Representatives in overriding Truman’s veto and establishing the Taft-Hartley Actas a law87. It amended the Wagner Act (which Congress had passed in 1935) in a

86In June 1944 together with Owen Lattimore he made a three-week visit to the eastern part of the USSR. Wallacerelates his visit in a book entitled “Soviet Asia Mission” (1946) while Lattimore brought back a film and an article for“National Geographic Magazine” which was published in December 1944. Lattimore later became the target of an anti-Communist campaign.

87Although President Truman expressed (fairly mildly) his opposition to the law, subsequently he used it several times


way which was favorable to business.

Moreover, while the prospect of universal, federally insured health coverage seemedclose, the project was killed in Congress in November 1949.

The turning point of 1945 in foreign policy and the Cold War

In some political circles the Soviet Union had remained the main foe even though itwas officially a close ally during the war. There had already been a “Red Scarce”in the 1920s. During the 1930s a “House Committee on Un-American Activities”(HCUA) hunted down Communists and sympathizers, i.e. members of so-calledfront organizations.In the weeks before the election of November 1944 at a time when the war was stillin full swing there was quite a revealing incident that was mentioned by PresidentRoosevelt in his radio address of 5 October 1944 (see below).Thirteen RepublicanCongressmen had mailed 3,116,000 copies of a speech in whichthey alleged that“the Roosevelt Administration is part of a gigantic plot to sell our democracy outto the Communists”88. It can be said that the Cold War began soon after the deathof President Roosevelt on 12 April 1945. Under President Truman, Secretary ofthe Navy James Forrestal who was strongly anti-Communist assumed an essentialrole. Starting in 1946 and in collaboration with the FBI, theAmerican Chamber ofCommerce published a series of anti-Communist brochures which were based on theassumption that the only objective of American Communists was to overthrow thegovernment89. The Taft-Hartley Law was a fruit of the Cold War and represented alandmark victory of business in its fight against the power ofunions.

Document 6.1 President Roosevelt’s radio address of 5 October 1944My fellow Americans:

I am speaking to you tonight from the White House [. . .]

I have just been looking at a statement by a member of the Congress, Represen-tative Anderson, Chairman of the House Committee on Campaign Expenditures,about a document recently sent free, through the mails, by one Senator and twelveRepresentatives- all of them Republicans. They evidently thought highly of this doc-ument, for they had more than three million copies printed free by the GovernmentPrinting Office, requiring more than 18 tons of scarce paper,and sent them throughthe mails all over the country at the taxpayers’ expense.

to break strikes.88The article of the New York Times (4 October 1944, p. 14) whichmentions this story says that the speech attacked

the “Congress of Industrial Organizations” (C.I.O.) unionbut it does not allude to the attack against the Roosevelt Ad-ministration, probably an effect of self-censorship in wartime.

89The first titles were as follows:Communist infiltration in the United States: its nature and how to combat it; Com-munists in the government: the facts and a program(1947);Communists within the Labor Movement, facts and counter-measures(1947). Other titles followed subsequently.

100 Chapter 6

Now let us look at this document to see what made it so important to 13 Republi-can leaders at this stage of the war when many millions of our men are fighting forfreedom. Well, this document says that the “Red specter of Communism is stalk-ing our country from East to West, from North to South” the charge being that theRoosevelt Administration is part of a gigantic plot to sell our democracy out to theCommunists.

This form of fear propaganda is not new among rabble rousers and fomenters of classhatred who seek to destroy democracy itself. It was used by Mussolini’s black shirtsand by Hitler’s brown shirts. It has been used before in this country by the silvershirts and others on the lunatic fringe. But the sound and democratic instincts of theAmerican people rebel against its use, particularly by their own Congressmen and atthe taxpayers’ expense.

I have never sought, and I do not welcome the support of any person or group com-mitted to Communism, or Fascism, or any other foreign ideology which would un-dermine the American system of government, or the American system of free com-petitive enterprise and private property.

That does not in the least interfere with the firm and friendlyrelationship which thisNation has in this war, and will, I hope, continue to have withthe people of theSoviet Union. The kind of economy that suits the Russian people, I take it, is theirown affair. The American people are glad and proud to be allied with the gallantpeople of Russia, not only in winning this war but in laying the foundations for theworld peace which I hope will follow this war and in keeping that peace.

Source: Website of the American Presidency Project.

The Taft-Hartley Law

Passed by Congress in June 1947, the Taft-Hartley Law nullified many of the rightsthat workers and unions had gained through the Wagner Act of 1935. In that senseit really marked a turning point in US labor relations. To make this point clear onemust explain in some detail its main provisions.• It required union officers to deny under oath any Communist affiliation. As a

result, the 232,000 officers who signed the oath were in dailydanger of employer-inspired testimonies which would expose them to perjury indictments and could sendthem to prison. There were several cases of this kind. One of them received broadpublic attention. In 1954 Clinton Jencks who had played his own role as a unionleader in the movie “The Salt of the Earth” was indicted, convicted of perjury andsentenced to 5 years in prison. The conviction rested largely on the testimony of apaid informant for the Federal Bureau of Investigation who later recanted his story.


Fig. 6.2 Advertisement for the “Road to Serfdom”. Hayek’s book presents opinions but contains very littlefacts and almost no data. At that time the Reader’s Digest hada circulation of one million copies. Published in1944 jointly in Britain and in the United States, the book benefited from a worldwide advertisement campaign;for more details about this campaign see Roehner (2007, p. 117-119). As a matter of fact, it was part of abroader campaign destined to get rid of the reforms of the NewDeal which had raised strong objections frombusiness associations and their lobbying groups.

The case was taken up by the Supreme Court in 1957 in a decisionwhich bared asystem of prosecution based on paid informants.• The law gave courts the power to fine unions for alleged violations, thus expos-

ing them to million of dollars in legal expenses, fines and damage suits.• The law established a 60-day cooling off period in which no strike could be

declared.• By outlawing mass-picketing it gave again employers the opportunity to employ

replacement workers.

Union-bashing

In a review of a book entitled “Scandal in organized labor” Professor LawrenceRichards observes: “The association of unions with organized crime is perhapsthe most idelible image of organized labor in American culture. Even Americans

102 Chapter 6

who know nothing else about unions (indeed, precisely thosewho know little aboutunions, “know” about union corruption”. A natural questionis: how did such a belieftake root?

Two observations can throw some light on the answer.• Such a belief is largely specific to the United States. In France, Germany or the

Scandinavian countries no association is made between unions and organized crime.• During the 1930s the LaFolette Civil Liberties Committee ofthe US Sebate (as

well as other commissions) conducted hearings of employerswhich exposed theirunlawful behavior in matters of safety rules, union obstruction or agreements withcompetitors.

In the 1940s the wind began to turn. Columnists, radio programs and movies intro-duced and popularized the idea that union bosses were by and large gansters or inleague with gangsters. Scandals surrounding William Bioffor Jimmy Hoffa were ex-ploited by anti-New Deal consevatives for union-bashing purposes. This is preciselythe topic of the book that we mentioned above. Its author, David Witwer, focuseson a few select cases which were at the start of this evolution. He exposes the anti-New Deal agenda of the “Crusading journalists” who investigated these affairs; heexplains how employers often encouraged the pressure of organized crime on unionsand took advantage of it. Just to name a few, movies such as “Onthe Waterfront90”(1954), “Armed and Dangerous91” (1986) or “Hoffa92” (1992) contributed to createa strong association in the minds of people between unions, crime and corruption.

Although it is difficult to assess with precision the role played by such campaigns inthe fall of unionization rates, one would expect that they had indeed some influence.The best proof of their effectiveness is provided by the factthat anti-union organiza-tions are prepared to spend millions of dollars on such campaigns. From an Internetexcerpt from the “National Journal” (31 July 2008), one learns for instance that anti-union front groups planned to collectively spend almost $100 million in 2009 againstthe “Employee Free Choice” bill and those who support it; thecontribution break-down was as follows:• Chamber of Commerce: $25 million• Coalition for a Democratic Workplace: $30 million• Employee Freedom Action Committee: $30 million• Freedom’s Watch: $30 million• Center for Union Facts: exact contribution unknown, but in the millions.

90A longshoreman struggles to stand up to hiscorrupt union bosses91A fired cop signs up as security guard and find he has joined acorrupt union.92About the fight of Attorney General Robert Kennedy againstcorrupt unionssuch as Jimmy Hoffa’s Teamster Union.


Will Obama’s presidency mark a turning point?Chronology 6.2 shows that on the basis of his first month in office President Obamaintends to break away from the assertions of the neoliberal creed. This is particularlyclear for the following issues: tax evasion and off-shore tax shelters, unionization,tax rate for the highest income brackets, federal aid to alleviate the cost of highereducation. Yet, in politics intentions are not enough. Any substantial change mustovercome the resistance power of the social and political forces who took advantagefrom the previous system. So the real question is rather93: “Will President Obamaand the Democratic Party commit themselves with sufficient energy to the objectiveof making such a changereally happen?”We try to answer this question at the end but before that, one can make three prelim-inary observations:

(1)) Proponents of neoliberalism are not willing to question the soundness of theirmodel in the light of the present crisis. They did not do that after the failures ofEnron, Global Crossing and WorldCom (which were early warnings of the problemswhich surfaced in 2007) and they will not do so either in the wake of the currentcrisis. The common position of banks and neoliberal think tanks is: “We are opposedto any form of federal regulation; whatever mistakes had been made will be correctedby the profession”. In short, the plan is to overcome the present crisis and to resumethe activities which had been so profitable during the past decades. Actually thisattitude makes sense from their perspective. This can be shown by the followingsimple calculation. It is said that the fund of George Soros had an average annualreturn of 30% between 1969 and 1999. Such a return representsa multiplication bya factorK = 1.330 = 2, 620. So even after a fall of 90% the multiplier is still equalto k = 262 which corresponds to an average annual return of 20%.

(2)) There is already a vocal opposition to President Obama’s agenda but for thetime being (March 2009) it comes from hard core of neoliberals such as the RupertMurdoch medias, the Cato Institute, the Heritage Foundation and other neoliberalthink tanks. On the contrary, the Hearst Press is showing moderation and under-standing.

(3)) A major difference with the New Deal is that President Obama had beenelected much earlier in the crisis. At the time of President Roosevelt’s inaugurationthe country had already been in economic recession for 3 years and the unemploy-ment rate was 25% of the civilian labor force (Historical Statistics of the UnitedStates p. 135). As a result there was a consensus that “something had to be done”

93In the time of globalization it could seem bizarre to put so much emphasis on the policy of the United States. Yet,at the present time its influence is so overwhelming that evenfor large countries such as China or India their economicoptions are modeled on the US particularly as far as labor policy is concerned. A major US shift away from the neoliberalagenda would bring about a global turning point.

104 Chapter 6

which even extended to business circles. Although this goodwill did not last verylong, in the present case there is nothing of the sort.

If one adds to that the fact that the medias are much more powerful (especially dueto TV) and more concentrated in a few hands that they may have been in 1933, onewould expect that the groups who oppose any change will put upa more determinedfight.

Chronology 6.2 Will there be a shelving of neoliberalismunder the Obama administration?

Through decisions taken within a few weeks after his inauguration on a number of important issues,

President Obama has shown that the changes that he promised during his campaign imply the calling

into question of several of the axioms of the neoliberal creed. As illustrated in this Chronology this

concerns in particular the following points: (i) Curtailment of tax havens worldwide (ii) Higher taxes

on rich people (iii) Federal aid to students (iv) Halt to the privatization of Medicare.

2009, Jan 27 Against the stimulus plan (1). The Cato Institute mounted a fullfrontal attack against [President Obama’s] stimulus plan.(Excerpt from the website “Mike Norman Economics”..)

[The stimulus plan (American Recovery and Reinvestment Act) was intended to bepassed by Congress on a bipartisan basis. Incidentally, this is why it was found highlydisappointing by progressive economists such as Paul Krugman. Nevertheless: (i)The plan passed with zero Republican support (ii) It drew fierce criticisms fromneoliberal think tanks. (iii) On 29 January, the Cato Institute sponsored a nationwideadvertisement campaign in newspapers against the plan.

For the President this may have provided a clear indication that it was futile to seekbipartisanship.]

2009, Jan 29 Against the stimulus plan (2). The Cato Institute purchased full-page ads in major national newspapers (e.g. the New York Times or WashingtonPost). After citing a statement made by Mr. Obama on 9 January(i.e. beforehis inauguration) which read: “There is no disagreement that we need actionby our government, a recovery plan that will help to jumpstart the economy.”,the message said: “With all due respect, Mr. President, thatis not true.” Belowthere was a short declaration which contained in particularthe following sen-tence: “More government spending by Hoover and Roosevelt did not pull theUnited States economy out of the Great Depression in the 1930s.” After thesecomments came a list of about 190 names, mostly professors who signed thedeclaration. The same advertisement was placed in 15 student newspapers on11 February 2009.


(http://wichitaliberty.org/economics/with-all-due-respect-president-that-is-not-true/.)

[Incidentally, the US production of steel which was 15 million tons in 1932 hadclimbed to 53 in 1939 (and 83 in 1941, Historical Statistics of the United States p.693); thus, to say that government spending by President Roosevelt did not pull thecountry out of the depression does not seem quite correct.]

2009, Feb 6 Executive Orders about the role of unions. President Obama signedan Executive Order, effective immediately, authorizing executive agencies ofthe federal government to require every contractor on large-scale constructionprojects to become a party to a Project Labor Agreement (PLA)with unions.This Executive Order, which specifically revokes contrary Executives Ordersissued by former President George W. Bush in 2001 and reinstates a Clinton-administration rule, was immediately hailed by organized labor. The reactionof the business community, not surprisingly, was far different. The chief exec-utive officer of the “Associated General Contractors of America” said that thisorder “has the unfortunate potential to limit contractors’ability to compete forprojects at a time when the government is reporting that overone million con-struction workers have lost their jobs.”(http://www.jacksonlewis.com/legalupdates/article.cfm?aid=1634.)

[To the extent that this rule will apply toall contractors it is difficult to understandwhy it should limit their ability to compete. The real reasonof the protest may bethat this rule will strengthen unionization in a time when union-free companies havebecome the rule.This is the fourth pro-labor Executive Order signed by President Obama since Jan-uary 30th. Another order bars federal contractors from being reimbursed for ex-penses incurred in trying to persuade employeesnot to form a union. As a result ofthese orders most of the infrastructure projects funded in the $787 billion stimulusplan will have union workers.]

2009, Feb 20Fight against tax shelter abuses (1). Swiss law prohibits Swiss cit-izens from revealing any information covered by bank secrecy. This was con-firmed when (on Friday night) the Swiss Administrative Tribunal ruled that UBSshouldnot reveal to the American authorities the names of American clientshaving a secret account. Yet, shortly after this decision was released UBS an-nounced that it had already transmitted the names of about 300 clients (in a totalof 52,000 US customers). On Wednesday the bank had received an ultimatumthat it had until Thursday to comply or face an indictment which would bar itfrom banking activity in the United States. One obvious question is: how werethe customers selected whose names were transmitted? If they did not give per-mission they could rightly complain about discrimination.

106 Chapter 6

(Tribune de Geneve.)

[The importance of this information comes from the fact thatthe demand for thenames of the clients had already been made in June 2008. See inthis respect thefollowing articles:(i) Wall Street Journal 14 May 2008: Two charged in tax case.(ii) Spiegel 20 May 2008: Europe, US battle Swiss bank secrecy.(iii) Bloomberg 1 July 2008: UBS may be forced to comply with arequest by Fed-eral prosecutors to reveal the names of US clients with secret bank accounts set upto evade income-tax.Under the Bush administration, the matter was left pending.Nothing happened be-tween July 2008 and 20 January 2009. Although UBS said it was cooperating withthe IRS it did not release a single name. Then under the new administration the pro-cedure was energetically reactivated.It can be recalled that in February 2007 together with his colleagues Carl Levin andNorm Coleman, Senator Obama had introduced a bill, the “StopTax Haven AbuseAct” which contained much stricter regulation for both individuals and companies.The bill was not passed at the time but a similar bill may be introduced once againin 2009 with this time a better chance to become law.]

2009, Feb 26Higher tax on rich people (1). Obama’s planned tax would hithighest earners hardest. Taking from wealthy people to support universal healthcare will create enmity between high income people and thoseless fortunate. Itwill fracture society.(Excerpt from the website of the Cato Institute.)

[This statement should be compared with the observations presented in an earlierchapter which suggest that the past two decades were marked by a broad increase insocial segmentation.]

2009, Feb 27Higher tax on rich people (2). Obama’s budget plan sweeps awayReagan ideas. In a radical departure from recent history, the budget planned byPresident Obama would sharply raise taxes on the rich mainlyby eliminatingtax cuts which were enacted under former President George W.Bush. The topincome tax rate for couples making more than $ 250,000 would increase from35 percent to about 40%. The tax increases would be delayed until 2011(NYT 27 February 2009, San Francisco Chronicle 28 February 2009.)

[An increase from 35% to 40% represents a small change if one recalls that before1980 the top rate was 70%.]

2009, Feb 27 Federal aid to students. If adopted the planned budget will markedlyincrease federal aid for students who want to go to college. Over the last threedecades the cost of college tuition climbed while the pay of less-educated work-


ers declined. As a result the United States lost its standingas the country inwhich the largest share of young adults graduates from college.(NYT 27 February 2009.)

2009, Feb 27Taking control of Citigroup. The US government will swap the$25 billion in preferred stock that it holds in Citigroup from a previous bailoutinto common stock. This will raise its share in the bank to 36%. To emphasizethe significance of this decision it must be recalled that in contrast to commonstock preferred stock does not carry any voting right. This conversion will makethe Federal government the main shareholder of Citigroup. Although the currentchief executive will remain in place for the moment, the boards of directors willbe reshaped.While this is not outright nationalization it comes close toit. In the wake of thisdecision the shares of the bank fell 39% to $ 1.50.(Associated Press, 27 February 2009, article entitled “New Citi plan may serve as model but carries

risks”.)

[Financial support provided to banks under the Bush administration took mostly theform of purchasing “toxic” assets or preferred stock which did not give the Treasuryany control over the banks decisions.]

2009, Feb 27Budget plan draws broad criticism in the Murdoch medias. Asan illustration one can mention the comments in the New York Post: “Obama’sbudget schemes to drain staggering amounts of money from people who workedfor it and steer it to people who didn’t. This isn’t the free market. It’s thefreeloader market”.(New York Post.)

[Even the Federal aid to help select students to pay their tuition is disapproved on theaccount that it comes on top of Social Security and Medicare which is said to be on“the verge of catastrophic collapse”.The New York Post, one of the oldest American newspapers, belongs to the group ofRupert Murdoch.This excerpt shows that five weeks after his inauguration, President Obama is alreadyfacing a fierce opposition at the forefront of which one finds the Rupert Murdoch me-dias (which include the Fox News TV channel, the “Weekly Standard” magazine andmany others) and neoliberal think tanks such as the Cato Institute.In contrast, the Hearst newspapers (e.g. Houston Chronicle, San Francisco Chroni-cle, Seattle Post-Intelligencer) are much more moderate and balanced in theirs com-ments.]

2009, Feb 28The “Federal Deposit Insurance Corporation” (a governmentagencyproviding a kind of insurance to customers of failed banks) has been authorized

108 Chapter 6

Fig. 6.3 Cover of the “Weekly Standard” of 9 March 2009. The “Weekly Standard” magazine belongsto Rupert Murdoch’s News Corporation. The titles of some of the articles published in this issue are quiterevealing: “The Return of Big Government”, “Hey, Big Spender”, “A Ph.D. in Every Pot”, “Indefensible”,“Reports of conservatism’s demise have been greatly exaggerated”, “Unions are part of the problem, not partof the solution”.

to raise an emergency fee of 0.2% of deposits from the 8,305 federally insuredfinancial institutions. In addition to this emergency measure the regular insur-ance premium will be raised to about 0.14%. In 2008 the average premium paidby banks and thrifts was 0.063%.(Associated Press 28 February 2009, article entitled: “FDICraising fees on banks.”.)

[During 2008 the FDIC rescued directly several small banks.In the case of largebanks the FDIC mainly acted as a middle man. Thus, WashingtonMutual (withassets around $300 billion) was acquired by JP Morgan Chase for $1.9 billion in adeal brokered by the FDIC. The capital of the FDIC is only about $20 billion andwould have been quickly exhausted if it had attempted large rescue operations.]

2009, Mar 3 Fight against tax shelter abuses (2). Bills against offshore taxhavens were introduced by democrats in the Senate and House of Representa-tives. The Senate bill expands on one co-sponsored last yearby then-SenatorBarack Obama and Senator Carl Levin, who has sought a broad crackdown ontax dodgers. Texas Democrat Lloyd Doggett who introduced the legislation inthe House declared: “These outrageous tax havens add to the soaring budgetdeficit and shift the tax burden to small businesses and families who play by therules”.(Reuters 3 March 2009, article entitled: “Foreign tax havenstargeted in US bills”.)

[The article also notes that “a thriving business in tax evasion developed in recentyears on Wall Street among consulting firms, hedge funds and other financial players.


Some purveyors even sought patent protection for their schemes. This shows that onthis issue the Obama administration is intending to change the trend which prevailedin recent years.]

2009, Mar 4 Fight against tax shelter abuses (3). UBS wealth managementexecutive Mark Branson, appearing Wednesday 4 March beforea Senate Com-mittee, said he objected to an Internal Revenue Service (IRS) lawsuit that seeksto force UBS to reveal the names of up to 52,000 US customers who may haveconcealed their accounts from tax authorities. He said thatUBS cannot discloseinformation to the IRS that would put its employees at serious risk of criminalprosecution under Swiss law. He also said that as of 30 September 2008 47,000American clients had failed to file special tax forms known asW-9s with thebank. UBS was supposed to require them to do so. So far, UBS hasshut down14,000 American offshore investment accounts but would notclose their de-posit accounts.At the same audience IRS Commissioner Doug Shulman said the US govern-ment was taking unprecedented measures to combat offshore tax avoidance andpromised that “much more is in the works”.Senator Levin, the chairman of the Committee observed that banking secrecy is“part and parcel of a conspiracy to commit a crime under our law”.Cloak-and-dagger tactics said to have been employed by UBS such as codedlanguage in internal e-mails and memos or foreign shell companies were ondisplay at the hearing.(http://www.moneynews.com/streettalk/swissbank tax dodgers/2009/03/04/188504.html.)

[UBS’s refusal to disclose other names in addition to the 250already transmittedhas certainly been weighed carefully. In the worst case scenario it would mean theclosing of UBS operations in the United States (25,000 employees out of a total of78,000) but also perhaps in countries that may follow the American lead (e.g. Aus-tralia, Canada, Mexico). It can be hypothesized that the present decision was takenin agreement with the Swiss government and is based on the fact that the breakingof the secrecy rule would be more serious for Switzerland than a drastic contractionof the activity of UBS. The total assets of American UBS customers is estimated atabout $15 billion (Associated Press 4 March 2009, article entitled: “UBS says it had47,000 accounts for Americans”). This figure is probably an underestimate becauseit is known that to open an account at UBS the minimum was $1 million which onthe basis of 47,000 customers would imply assets of (at least) $47 billion.]

2009, Mar 10 Pro-union legislation. The so-called “Employee Free Choice bill”was introduced in Congress. The bill is meant to make it easier for employeesto unionize because instead of a secret ballot, as is currently the practice, they

110 Chapter 6

could simply sign a card supporting unionization. The business community islobbying hard against the legislation with the leadership of Wal-Mart Stores andthe US Chamber of Commerce. Wal-Mart is vehemently opposed to the legis-lation and its spokesman declared that the company feels certain that Congresswill not pass this pro-union bill.(Dowjones Business News.)

[The real problem of unionization seems to be that in 25% of the unionization drives,pro-union workers are just (illegally) fired94. Currently (2009) the penalty for firingpro-union workers is so weak that it does little to deter law breakers.Whereas many Americans would probably agree that this is notfair, it is likely thatthe card check debate will not raise much public interest andeven less approval.It must be noted that this legislation was already introduced in Congress in 2007and defeated. In short, it does not appear to be a wise move to have chosen thisbattleground to start the all-important battle about the respective rights of employersand employees.]

2009, Mar 18 The Federal Reserve follows the UK and Switzerland in theirpolicy of printing money. “The Fed is printing $1 trillion of money, andusing those funds to buy bonds. I think quantitative easing [the current way ofreferring to money printing] is the right way to go”.(New York Times 20 March 2009, article by Paul Krugman.)

[After that announcement was made many analysts expressed their concern that theexchange rate of the dollar may slide and that, as a result, inflation may pick up inthe United States with the possibility of a flight of money to more stable currencies.For the time being such fears seem unfounded. As far as the future is concerned, theoutcome depends on how much dollars will be printed. One trillion could seem abig amount but compared with the deflationary process that results from the fall ofhouse prices, it is in fact fairly small. In 2007 the total market value of US residentialand commercial property was around $30 trillion (22 for residential and 8 for com-mercial); thus, an annual price fall of about 20% results in deflation amounting to $6trillion. If annual quantitative easing comes to exceed this amount one may begin toworry about inflation.]

2009, Mar 29 Regulation plans of the financial system. The Obama administra-tion wants to rewrite the rules of the game for the finance industry. This would

94The ballot for unionization may be held if more than 30% of employees sign cards asking for it. But, according tocurrent legislation, employers naturally get to scrutinize and challenge the signatures before the election can be called.This allows companies to use the current process to intimidate, coerce, and even blacklist workers involved in organizingthose who signed the cards. In other words, the employer willknow how employees are going to vote long before theystep into the voting booth. Many employers resort to spying,threats, intimidation, harassment and other illegal activityin their campaigns to oppose unions. (http://www.californiaprogressreport.com, The Washington Independent 14 January2009)


include forcing derivatives trading on to recognized exchanges, new oversightof hedge funds and additional powers to shut down large firms that threaten todestabilize the global economy.Republican leaders signaled that they would not allow President Obama to bull-doze new legislation through Congress and called for time for reflection. TheAmerican Bankers Association immediately threw up objections to the plan.Analysts said that the planned regulation could curtail profitable trading oppor-tunities.(The Independent 27 March 2009.)

[At the time of writing (March 2009) there was much talk aboutregulation. Howeverone should not forget that the Sarbanes-Oxley Act of 30 June 2002 already tried toestablish enhanced standards for publicly traded companies and public accountingfirms. This law was passed in the wake of the Enron and Global Crossing bankrupt-cies which revealed the broad extent of deceit and corruption. Its objective was torestore public confidence in US capital markets.The very fact that this law was only mildly opposed by financial interests and theirlobbying groups suggests that it was not taken very seriously. The crisis whicherupted 6 years later indeed confirmed that opacity, deceit and graft were still widespreadand pervasive. The Act established a new quasi-public agency, the “Public Com-pany Accounting Oversight Board” (PCAOB) which was chargedwith overseeingand inspecting accounting firms. In following years very little was heard about thisagency.]

2009, Mar 29 Prospects of a landmark pro-union bill. In the early 1950s about35% of private-sector workers belonged to unions. Today less than 8% do. As aresult, wages have lagged behind rising productivity. How President Obama andcongressional leaders decide to craft pro-union legislation will determine thepost-recession economy. Many expect this question to be a defining showdownof Obama’s presidency.(Washington Post 29 March 2009, p. A05.)

[At the time of writing there are very few articles on this question. Yet, it seems clearthat there can be no sustainable economic growth in the United States unless wagesand salaries again begin to grow instead of declining as was the case during the past30 years.]

2010 Rosy forecasts. The Obama budget forecasts that, despite the depth of thecurrent recession, the economy will recover and grow by 3.2%in 2010 and thenclimb to an even more robust 4% in the three following years.(Seattle Post-Intelligencer 26 February 2009.)

112 Chapter 6

What should be expected in 2010–2011?We have given a fairly detailed account of the first 100 days ofthe Obama admin-istration. Let us now come back to the key questions addressed in this section: willthere be a real break with the neoliberal agenda? Our flat answer is “No”. Why?

There is a considerable difference between the 100 days of President Roosevelt andthe 100 days of President Obama. Between March and May 1933 15laws werepassed which representedstructuralchanges. Between January and March 2009, thelaws which were passed intended mostly to provide short-time relief; very little wasdone in terms of structural changes. The attempts which weremade to introducemajor breaks (e.g. in terms of tax havens or labor regulation) were not pursued withenough energy and did not materialize in major laws. In the weeks after his inau-guration President Obama enjoyed strong public support which would have enabledhim to make major breaks. He did not take advantage of this opportunity.On several important issues President Obama backed down from the promises hemade during his campaign, e.g. (i) regarding relief provided to home owners inbankruptcy: the finance industry was adamantly opposed to allowing bankruptcyjudges to reduce the mortgage level. “When the time came to stand up to the bank-ing lobbies the White House didn’t” wrote the New York on 4 May2009. (ii) Theintroduction pro-union legislation has been given a false start as we explained above(iii) The struggle against UBS and other tax heavens seems tohave been shelved.It is doubtful that these projects can be resumed later on especially once the strongpublic support of the first months has dwindled.

So, with the basic rules of the system practically unchangedwhat can one expect tohappen?Financial markets have very short time constants. They collapsed within a fewmonths but they can also come back to life within a few months.As soon as creditwill flow again the transactions which have been so profitablein the past (e.g. lever-aged buyouts, mergers and acquisitions, initial public offerings) will be resumed.

For economic markets the time constants are much longer and recovery will takeseveralyears. Let us give an illustration.

During 2008, industrial production in developed countriesfell by about 16%; howlong will it take to return to the production level of early 2008? Since in past years thehighest (sustained) growth rates were of the order of 4%, it means that it would take4 years to regain the production level of early 2008. In otherwords even assumingsteady, uninterrupted growth over the next 4 years, the production level of January2008 will be reached again only in January 2013. If underlying problems such asincome distribution are not solved in the meanwhile a recovery in the form of the


Japanese “lost decade” of the 1990s seems likely; this meansa sputtering growthengine with “good” quarters being followed by quarters posting negative growth.Under such an assumption recovery may take much longer. In Japan the index ofindustrial production reached a level of 101.6 in 1991 and regained that level only in2005, that is to say fourteen years later.

Some tests for the years to comeWill there be a way out of the neoliberal ideology in the yearsto come? There isno way to answer this question in a scientific way. However, itis possible to definesome test-indicators which should allow us to see more clearly in which directionthe world is heading.

Comparison between 1929 and 2008 in terms of synchronicity

Financial globalization progressed markedly between 1990and 2008; therefore it ishardly surprising that the financial crisis assumed a worldwide extension in a matterof months. What is more surprising is how rapidly it affectedthe production sphere,a feature which is documented in Fig. 6.1c.

The severity of the depression which started in 2008 is not due only to its world-wide extension, but also to the number of sectors which experienced drastic declineswithin a few months. At the time of writing one can mention:• Banking• Residential real estate• Office and commercial real estate. For instance, the market value of the Ca-

nary Wharf property, London’s financial hub fell 26% betweenDecember 2007 andDecember 2008 (The Independent 27 March 2009).• Transport sector. For instance, the port terminal of Portland, Oregon which is a

major hub for transpacific trade has seen a sharp reduction inactivity. Trans-Pacificcargo traffic fell 32% in 2008 (Portland Business Journal 20 March 2009).• Overproduction problems in the automobile industry spreadfairly quickly.

Can one use Fig. 6.1 for predictive purposes?Intuitively, one may be tempted to speculate that the more synchronous and widespreada crisis is, the deeper it will be and the longer it will last. be. Let us examine thesepoints more closely.• It is true that the downward momentum shown by graph 6.1c is impressive. The

whole question, however, is whether this fall is due to exogenous or endogenousfactors. As an example of the first kind one can mention the Spanish flue pandemicof 191895. Because it killed a substantial number of young people worldwide and

95It is estimated that anywhere from 20 to 100 million people were killed worldwide, more than double the number

114 Chapter 6

Depression of 1929

-20

0

20

1925 1930 1935

USA

-20

0

20

1925 1930 1935

Mexico

-20

0

20

1925 1930 1935

Brazil

-20

0

20

1925 1930 1935

Germany

-20

0

20

1925 1930 1935

France

-20

0

20

1925 1930 1935

Russia

-20

0

20

1925 1930 1935

Japan

-20

0

20

1925 1930 1935

Sweden

-20

0

20

1925 1930 1935

UK

Fig. 6.4a Variation of industrial production in 9 countries before and after 1929.The graph shows annualvariations expressed in percent. The zone delimited by the broad vertical line corresponds to the first year of thedepression, i.e. the transition from 1929 to 1930. The graphshows that contrary to a common belief the GreatDepression was not a worldwide depression. The UK, Japan andRussia were mildly or not at all affected. Itcan also be seen that during the 1929-1930 time interval, apart from the United States there were only two othercountries (Germany and Brazil) where there were sharp negative growth rates. In short, the depression startedwith a low degree of synchronicity.The fact that over 1929-1930 all the curves are going downward means that thesecondderivatives (i.e. theaccelerations) were all negative. This has a simple interpretation. Once the depression had started in theUnited States, the reduction of US imports induced a slowdown in the activity of all main economic partners;this brought about reduced growth even in countries where growth rates remained positive.Sources: Mitchell(1978), Mitchell (1982), Mitchell (1983)

disrupted exchanges it certainly had a detrimental impact on economic activity. Yet,the epidemic lasted only a few months, basically from September to November 1918.As soon as it abated exchanges and activity were re-established and growth wasresumed Thus, in this case the impact of a sudden and global shock was neithersevere nor short-lived.• Fig. 6.1c shows that the impact of the current crisis is not only universal but also

fairly strong. Annual falls of industrial production in therange of−10% – − 20%

are not common.Is there a connection between the depth of a recession and itsduration? In order tofind out one can consider the case of the Great Depression in the United States. It isoften argued (especially by proponents of neoliberalism) that the New Deal did notwork because the industrial production resumed its level of1929 only in 1939. Insuch a statement one forgets that the index fell from 124 in 1929 to 67 in 1932, a fallof about 50%. After the New Deal policy was started in 1933 theindex grew steadily

killed in World War I.


Recession of 2001

-5

0

5

10

2000 2002 2004

USA

-5

0

5

10

2000 2002 2004

Mexico

-5

0

5

10

2000 2002 2004

Brazil

-5

0

5

10

2000 2002 2004

Germany

-5

0

5

10

2000 2002 2004

France

-5

0

5

10

2000 2002 2004

Russia

-5

0

5

10

2000 2002 2004

Japan

-5

0

5

10

2000 2002 2004

Sweden

-5

0

5

10

2000 2002 2004

UK

Fig. 6.4b Variation of industrial production in 9 countries before and after 2001.The graph shows annualvariations expressed in percent. Compared with the graph for 2008 there are major differences in terms ofamplitude and in terms of synchronicity. (i) The vertical scale shows that it was a recession of low magnitude;The three largest negative growth rates (US, Mexico and Japan) have a magnitude around−5% whereas in thenext graph the three largest falls are much larger:−31% (Japan),−19% (Germany),−17% (Sweden),. (ii)During the first year of the recession, industrial production continued to increase in three countries: Germany,France and Russia.Sources: Website of “Trading Economics”: http://www.tradingeconomics.com; StatisticalYearbook of Sweden; Historical Statistics of Japan.

(with the exception of 1938 which was marked by a decline) butit took of coursesome time to rescue the American economy from the abyss into which it had fallen.Even with an annual growth rate of 10% it would take 7 years to raise productionfrom 67 to 124.

This example clearly suggests that depth and duration of a depression are two relatedvariables because it takes time to recover the lost ground.As an illustration, consider the case of Japan. During the golden decade 1981-1990the average annual growth rate of Japan’s industrial production was 4.6%; the highestannual rate occurred in 1988 with 9.7%96. Thus, to recover from the 31% fall whichoccurred in 2008 it would take31/9.7 = 3.2 years at the fastest possible annual rateand31/4.6 = 6.7 years at the fastest average rate sustainable over a period of severalyears.

Comparison with the Great Depression in terms of social interactions

In a previous chapter we documented the decrease in social interaction over the pastdecades. According to Harvard professor Robert Putnam economic depressions lead

96The sharp drop of 1975 (−11%) was followed by a quick recovery but nevertheless the growth rate was only9.2% in1976.

116 Chapter 6

Depression of 2008

-30

-20

-10

0

10

2006 2008

USA

-30

-20

-10

0

10

2006 2008

Mexico

-30

-20

-10

0

10

2006 2008

Brazil

-30

-20

-10

0

10

2006 2008

Germany

-30

-20

-10

0

10

2006 2008

France

-30

-20

-10

0

10

2006 2008

Russia

-30

-20

-10

0

10

2006 2008

Japan

-30

-20

-10

0

10

2006 2008

Sweden

-30

-20

-10

0

10

2006 2008

UK

Fig. 6.4c Variation of industrial production in 9 countries before and during 2008.The graph showsannual variations expressed in percent. The depression started with a high level of synchronicity: all the fallsare larger than 10%. It is probably the first time in the history of mankind that a severe recession startedworldwide with such synchronicity.Somewhat surprisingly, the falls are smallest in the two countries (UK and US) where the financial crisisoriginated. As of January 2009, the unemployment rate is almost the same (around8%) in the European Union,in Russia and in the United States; the increase rate, however, is fastest in the US.As a matter of comparison, the steepest annual decline during Japan’s “lost decade” (1991-2001) was−7%

which occurred from 1997 to 1998 and again from 2000 to 2001; in 1974 the oil shock brought about a fall ofonly 11%. (Historical Statistics of Japan).China (which is not included in this graph because of the lackof data in the 1930s) had still a positive growthof about8% in 2008, a rate which marked a substantial reduction with respect to earlier growth rates of about15%. Sources: Website of Trading Economics: http://www.tradingeconomics.com

to even greater social isolation. He found that Kiwanis clubs, PTAs97, and othersocial groups lost around half their members from 1930 to 1935.

Putnam believes that the effect would be more pronounced today. The Depressionwas a boom time for movies. Today movies are no longer cheap but TV provides acheap substitute. Yet watching TV is an activity which contributes to social isolation.

Supply of labor

In the 19th century

Historically, it had always been a great concern for employers to be able to rely onan abundant supply of cheap labor.

97 “Kiwanis International” is a global organization of volunteers headquartered in Indianapolis, Indiana. It comprisesapproximately 8,000 clubs in 96 countries with over 260,000adult members (2008). Kiwanis emphasizes service tochildren and youth.PTA: “Parent-Teacher Association”, a voluntary organization bringing together parents and teachers.


Back in the 19th century as slave trade was progressively being abolished, Britishplanters brought indentured workers from India to many parts of the British empirewhere they were needed to work on tropical plantations; one can mention for in-stance Fiji, Guyana, Jamaica, Kenya, Mauritius, South Africa, Surinam, Trinidad,Uganda98.

Yet, except during the world wars, no attempt was made at thattime to bring workersfrom the colonies to Britain or other European countries. Apparently, the supply oflabor provided by Irish immigrants was deemed sufficient to support the industrialdevelopment in England and Wales.

After 1945

It is only after World War II that increasing numbers of immigrants from Jamaica,India or Pakistan entered Britain. In subsequent decades the globalization of laborsupply became one of the main features of the new economic system. In 2009 thisremains a crucial question because so long as supply vastly exceeds demand therecan be no real improvement in real income and in working conditions. Yet, in allindustrialized countries (with the possible exception of Japan) employers are stillvery committed to their demand for cheap labor and its corollary which is free im-migration. For instance in 2009 the vice president of the US Chamber of Commercedeclared that the business community remained committed toa significant guest-worker program99 and welcomed an expansion of temporary worker programs. (NewYork Times 14 April 2009).

The European Union has long-term programs for recruiting foreign workers in sec-tors in which the supply is not sufficient. Needless to say, there would be anotherobvious way to increase the supply side, namely by raising salaries. If wages fornight watchmen, nurses or construction workers were raisedby 20% there is littledoubt that the scarcity problem would be quickly solved100.

This question arises even for highly qualified jobs such as scientific research. Solong as experts in computer science, electrical engineering, mathematics, physicsfrom countries such as China, India, the Philippines, Russia or South Korea are will-ing to fill positions in American industry and universities the average salary of PhDgraduates will stagnate and the number of PhD diplomas earned by American stu-dents will continue to decline (see chapter 9 in this respect).

98After these countries became independent in the 1960s, there have in several cases been rejection riots which lead tothe departure of a sizable fraction of the Indian population.

99Such programs are opposed by American unions because the immigrants are tied to one employer and cannot changejobs no matter how abusive working conditions are. In other words, such contracts are fairly similar to the contracts ofindentured workers of the 19th century or to the labor contracts of foreign workers in countries such as Dubai or SaudiArabia.

100The argument that it would erode the competitiveness of these companies is pointless because these are domesticsectors which are not in competition with other countries.

118 Chapter 6

In the same line, the development of post-doctoral programshas provided researchinstitutions with a flexible, temporary and fairly cheap supply of scientific researchersfrom all over the world. But the downside is that highly trained scientists will have towait until they are between 30 to 40 years old to get a permanent position, a situationwhich most of them do not happily accept101 .

It is likely that denying permanent positions to young employees adversely affectsbirth rates. Indeed, does the ability to support a family in asustainable way notappear as a reasonable precondition for getting married andraising a family?

Can the trend be reversed?

How can this trend be reversed? Before trying to answer this question it may beuseful to recall Franklin Roosevelt’s argument about usingchild labor in cotton fields(Address of the President delivered by radio from the White House, 7 May 1933).

Take the cotton goods industry. It is probably true that ninety per cent of thecotton manufacturers would agree to eliminate starvation wages, would agree tostop long hours of employment, would agree to stop child labor, would agree toprevent an overproduction that would result in unsalable surpluses. But, whatgood is such an agreement if the other ten per cent of cotton manufacturers paystarvation wages, require long hours, employ children in their mills and turn outburdensome surpluses? The unfair ten per cent could producegoods so cheaplythat the fair ninety per cent would be compelled to meet the unfair conditions.

Currently, we have the same situation; it is no longer at national level, today it isat world level. So long as starvation wages are paid by 10% of the countries, thosewho pay decent wages will be faced with unfair competition and will be compelledto “meet the unfair conditions”. This is the “rush to the bottom” scenario which hasbeen described by many lucid American Congressmen.

The first idea which comes to mind is to re-introduce restrictions on cross-nationalmigrations of workers. For historical, cultural and sociological reasons this was thepolicy followed in Japan. Yet, it would be very difficult to implement a similar policyelsewhere. For instance, to restrict the movements of workers between the countriesthat compose the European Union would run against the very ideas on which theEuropean construction is based. In addition it would be almost useless because thecompanies would relocate their plants into Eastern countries where wage-levels arelower. NAFTA, the North American Free Trade Agreement, doesnot provide forfree movements of workers but it makes little difference because US companies canfreely establish their plants in the north of Mexico in the so-called maquiladora

101Twenty years ago in France it was possible to obtain a permanent position in a research university at the age of 24; in2009 one can apply at the age of 28 at the earliest; often youngresearchers are recruited after 30. The situation is similarin Germany or in the United States.


area102. The ability to shift production out of the country, and thensell the productsback home, gives transnational corporations a crucial edge.In short, unless there is a broad come-back of protectionism, that solution will notwork.

Is there another solution?Definitely yes. So far, all free-trade agreements whether ona bilateral basis or on amultilateral basis (e.g. under the European Union or World Trade Organization) con-tained rules which were designed for the benefit of companiesbut none which wouldimprove the situation of people and workers. There were rules ensuring the free cir-culation of goods or prescriptions about the respect of patents, brands, intellectualproperty, but no rules about fiscal policies (regarding tax rates for corporations) orabout the rights of unions.

As there were no rules about tax rates on the profit of companies, this brought abouta race in which each country lowered its tax-rates in order toattract more foreigninvestments. But at the same time this deprived the governments of part of their re-ceipts and made them unable to provide basic services (e.g. free education) to theirpopulation. As low wage countries have an inherent attractiveness, it would makesense to require tax rates on profit to behigher (for instance 5% higher) than in in-dustrialized countries. That would have two advantages. (i) It would introduce a kindof balance between low wages and higher tax rates. (ii) It would provide resources tothe governments of developing countries for improving infrastructure and education.Otherwise the conditions in these areas will not improve. The maquiladorascamein existence in Mexico around 1965 to take advantage of the low level of wages butmore than forty years later there are still no unions in thesecompanies. As a conse-quence, the condition of the workers has scarcely improved and these areas are stillafflicted by third-rate infrastructures (in terms of water,streets, education) becausethe local government is too poor to make the required investments.

At present there were no rules in free-trade agreements about the basic rights ofunions; as a result, the workers of low wage countries have been unable to improvetheir condition. The union-free plants established in the north of Mexico are a case inpoint. Thus, if the workers in developing countries cannot improve their condition,no equilibrium can ever be reached. There will be a race to thebottom, to eversmaller real wages until the economy comes to a standstill because there is no longerenough purchasing power in the system. As we already explained this is probably

102The termmaquiladorarefers to an assembly plant set up in Mexico by a non-Mexican firm near the US-Mexicanborder. Starting in 1965 many non-Mexican companies were attracted by the low wages, special tax concessions and theproximity to the US market. They usually assemble parts manufactured elsewhere, and by law they must re-export 80%of their production. By 2000 the maquiladoras employed morethan a million Mexicans, mostly women. The managersare usually foreigners, whereas the hourly-paid workers, who have little job security and few benefits, are Mexican.

120 Chapter 6

what explains the debt driven economy that lead to the recentcrisis.

What kind of rules could be included in free-trade agreements? To proclaim thebasic right to form unions is not enough. Such a right is probably included in theconstitutions of many countries. As we already explained, unions are powerlessunless their rights are clearly stated. One may wonder why this is so.• There is a fundamental asymmetry between employers and employees which

comes from the fact that employers can fire their employees whereas employeescannot fire their employers. The following observations aremerely consequences ofthis situation.• “Company unions” (also called “yellow unions”) are run by the company man-

agers and are not affiliated with an independent trade union.Such unions were pop-ular in the United States during the early 20th century, but were outlawed under theWagner Act of 1935103). It seems fairly obvious that yellow unions are not the bestway to promote the right of workers. Balanced free-trade agreements would forbidcompany unions just as the Wagner Act did.• If employees can fire unionized workers they will be able to prevent the forma-

tion of unions. Similarly, if during a strike employers can hire replacement workersno strike can possibly succeed. As a result any union will be useless and will bedeserted by workers. Thus, free-trade agreements should contain rules prohibitingunfair labor practices such as those that we mentioned.• Whether or not free-trade agreements should contain minimum wage require-

ments is debatable. If the minimum wage in Romania was set at 2/3 of the minimumwage in France there would still be a strong incentive for business to relocate plantsin Romania but it would be a first step in a process of convergence of average wagelevels in the two countries. In case such a rule is omitted it may take several decadesto Romanian workers for securing such a wage level through the normal bargainingprocess with employers. The weaker their unions are, the longer it will take.

Will the trend be reversed?

Needless to say, the previous proposals would be completelyunacceptable for free-market apologists. As was already the case during the New Deal, any proposal whichcalls for an extension of the right of unions would be labeledby them as being aconcession to socialism, a label which has become almost infamous104. Unless thereis a radical departure from the prevailingZeitgeistsuch proposals will remain wishfulthinking and vain hopes.

As a matter of fact, apart from such ideological reasons, there is an even stronger

103Company unions are a mainstay of labor organization in Japan.104The social and economic record of Scandinavian countries where such policies were implemented certainly do not

justify such a judgment.


reason for the continuation of the present trend, namely thefact that it is to theadvantage of all parties involved, at least in a short-term perspective.

This can be seen easily on an example. Because the United States has not enoughnurses for its hospitals it organizes the recruitment of Filipino nurses. What are theadvantages for each party.• It allows the nurses to earn higher salaries and perhaps to marry and settle in the

United States.• The money sent by the nurses to their family in the Philippines improves the

balance of payment of the country which can be seen as a favorable feature by theFilipino government.• This additional supply of labor keeps down the salary of nurses in the United

States and improves the profit margin of hospitals. If in addition a part of this costreduction is used to lower hospital prices, this will contribute to a reduction in thecost of healthcare, a feature viewed with favor by the US government.

In the long-term, however, this system has unfortunate consequences.• It deprives the Philippines of a group of well-educated citizens. For those who

settle permanently in the United States the money which has been invested in theireducation will just be lost. In short, such an immigration actually represents a drainof resources.• By depressing wages in the United States this system contributed to the making

of the depression which started in 2008. Indeed, as we already mentioned, it is thefall in real wages coupled with enduring high levels of consumption which lead tothe indebtment bubble that brought about the crisis.

Neoliberalism and interactionAnother important feature of the decades 1988-2008 was the leveraged buyout (LBO)bubble.

In such an operation a firmA is bought by a financial institutionB (e.g. a holdingcompany, a mutual fund or a hedge fund) in large part with borrowed money. Theobjective of the buyer is to use the income generated byA to reimbourse the loans.Naturally, if for some reason (e.g. a recession)A turns out to be unable to generatethe cash-flow that was expected, bothA andB will be in trouble.

As an illustration one can mention the fact that between 2007and January 2009 theshares of the Blackstone Group (whose chief is dubbed “the leveraged buyout king”)tumbled 90%.

It is likely that the long-term consequences will be even more dreadful. The reason,once again, is because LBOs bring about a losening of social interaction. Nowadays,

122 Chapter 6

the debate about neoliberalism is obscured by purely ideological arguments. In another publication (Roehner 2009) we have tried to analyze this issue from the point ofview of network science. It turns out that efficient and creative systems are systemsin which there is a high degree of interaction. The three previous chapters suggestthat the implementation of the neoliberal agenda resulted in economic and socialsegmentation, in other words it weakened interactions and at the same time reducedefficiency.To make this argument more compelling one should be able tomeasureinteractionsfairly accurately. This will require extensive (comparative) work105. but we have thefeeling that such a research program will shed new light on this problem.

From a purely qualitative perspective it is fairly easy to give historical exampleswhich show that the kind of absentee landlord interactions that characterize holdingcompanies leads to poor economic and social achievements. Within 10 years it willbe possible to assess the performances of companies which were bought throughLBOs. If our present argument holds they should be poorer than those of similarcompanies which did not undergone LBOs.

Insight about the future

Toward a new model?

The Chinese ideogram for the word “crisis” is formed of two characters: one (wei)represents “danger” and the other (ji) means a “crucial juncture” (a secondary mean-ing is “resourcefulness”). It may well be that for China the current crisis indeedrepresents a crucial juncture and perhaps even an opportunity. Why?

Before 2009 Chinese economic growth was largely based on massive exports106 towhich foreign companies contributed for about one half. However, in the course oftime this may have become a sure recipe for stagnant wages. Indeed, many foreigncompanies came to China to benefit from low wages and threatened relocation ifwages were increased. Stagnant wages compounded with a thriving class of Chineseentrepreneurs would soon have lead to an oligarchic system and a de facto alliancewith foreign business interests.

This is not pure speculation.• After all, this was already the power structure under the Kuomintang govern-

ment.• Moreover, the Latin American countries provide several illustrations of such

an evolution. For instance, after the Mexican Revolution of1910-1920, it took less105In physics it took more than a century to explore the interactions between molecules, atoms or nucleons.106In 2008 exports represented about 30% of the GDP of China.


than 50 years for an oligarchic political class to emerge which monopolized politicalpower with the support and blessing of US business interests. Nowadays, Mexicoseems to be torn apart by internal strives much as China was during the concessionera.

In the fall of 2008 the Chinese government has signaled its intent to develop theinternal market That, of course, means distributing highersalaries as was done in theUnited States during the New Deal era. If the present crisis lasts long enough (letus say more than 10 years) that move will perhaps lead to the development of a newinteresting economic model.

In the Preface we mentioned that in 2006 the Chinese government was planning tointroduce a new labor law which would give more bargaining power to unions andthat this move was fiercely opposed by foreign companies. Wasthis law eventuallypassed over their objections? An honest answer would be “yesand no”. Yes, becausethe law was indeed passed in June 2007 and was introduced in 2008. But for laborlaws even more than for other laws the main question is how they are implemented.So far, the contracts which have been signed are extremely favorable to the compa-nies. The collective agreement signed at Wal-Mart is a case in point. Some localunion tried to fight it but did not get much support from the All-China Federationof Trade Unions (ACFTU) and were easily defeated. Only the future will tell uswhether this low-profile attitude of the ACFTU is intended toplacate foreign corpo-rations until further concessions can be gained or whether it means that the ACFTUwants to permanently side with the managenent, not only in foreign firms but also indomestic companies. If the new Chinese entrepreneurs gain sufficient influence inthe government it is probably the second alternative which will be realized.

Suppose for a moment that the first solution will prevail. This would mean that a neweconomic model may evolve in China which would provide a credible alternativeto neoliberalism. During the past decade China already was the only major countrywhere unions have been able to move forward instead of retreating. Smaller countriessuch as France or Germany can hardly move against the main stream. Its size allowsChina to open a new road for economic development. The comingyears will tell usif it will seize this chance or let it go.

Is there a way out?When asking this question at the beginning of the chapter we had two issues in mind:(i) Is there a way out of neoliberalism? (ii) Is there a way outof the economic crisiswhich started in 2008? In the previous chapters we argued that these questions areclosely connected.

124 Chapter 6

Medium-term perspective

We observed that real wages in the United States have been stagnant or decreasingover the last three decades. Unless this trend is reversed there will be no sustain-able growth in consumption and therefore no long-term increase in GDP. But thistrend can hardly be reversed if economic policy continues tofollow the neoliberalagenda107. As we have explained, this agenda leads to increasing social and eco-nomic fragmentation which hampers economic efficiency.

This is why we devoted this chapter to examining if a change ineconomic policy islikely to occur under the Obama administration. Our conclusion was that there wasa momentum for change but that it was just too weak. Perhaps, within two or threeyears there will be a “Second Obama” just as after 1935 there has been a “SecondNew Deal”? This, of course, is impossible to predict.

As was explained earlier, credit crunches occur suddenly but can end quite as abruptly.This opens the possibility that financial profit will again start to flow within one ortwo years. However, on the economic side the best we can hope for is probably a“lost decade” similar to what Japan experienced during the period 1992-2005. Ifduring this lost decade there is a substantial change in the redistribution of nationalincome, one can expect that the economic engine will start torun again.

Long-term perspective

At the begining of this study we observed that the American political situation wasbasically frozen. Due to the high level of funds required to run a successful campaignthe existing system tends to reproduce itself. Over past decades the percentage ofsafe seats at elections for Congress has climbed to over 83%.From an historicalperspective, systems in which any evolution is blocked are not uncommon. As amatter of illustration one can mention two cases.• Between 1830 and 1914 there have been numerous attempts change the political

and economic system in Tsarist Russia. True, in 1861 serfdomwas nominally abol-ished but this was a half-backed reform in the sense that the peasants had to buy-backtheir lands over a period of 49 years. True, a parliament was introduced in 1906 but ithad little power and the Tsar had the power to dismiss the Dumaand announce newelections whenever he wished. He made use of this right 4 times whithin 6 years. Itcan also be observed that these long awaited reforms were granted in the wake of twomilitary defeats in the Crimean war (1856) and in the Russo-Japanese War (1906).

107Proponents of neoliberalism may not agree on this point. Butis this not what the last decades seem to show not onlyin industrialized countries but also in Latin America? In the coming years East European countries can be expected tofollow the same unsuccessful path.In the previous chapters we avoided discussing this issue from a theoretical perspective because we have the feeling thatthis would be a waste of time. Unless social interactions areincluded into the theoretical framework of economics it willremain wanting and incomplete.


• China and Japan were confronted to the expansionist policies of western powersin the mid-nineteenth century. In China, the turning point was marked by the OpiumWars (1839-1846 and 1856-1860), in Japan it is the arrival ofthe Black ships of Ad-miral Perry in July 1853 which heralded the beginning of a newera.The interesting point is that the two countries responded tothis challenge in verydifferent ways. In Japan the Meiji Revolution (1862-1869) created a strong centralgovernment which was able to spur economic modernization. China’s reaction to thechallenge was much slower. While Japan was able to obtain theabrogation of theunequal treaties108 in 1994, foreign encroachments in China expanded decade afterdecade.Why was China’s answer so much slower than in Japan? That is certainly an inter-esting question, but we can get a meaningful answer only by studying other similarcases.India, Mexico, Russia, Turkey offer other illustrations of this phenomenon.

In all above cases the transformation was brought about by exogenous shocks andthese shocks were made possible by a state of military backwardness. Naturally, sucha scenario is highly unlikely for a superpower like the United States. On the contrary,the Unites States is able to use its overwhelming military dominance to extract eco-nomic advantages from its vassal countries109 . In other words, from a comparativeperspective the only meaningful cases are transitions thattook place within a super-power. Needless to say, this condition narrows considerably the selection of possiblecases. Even Britain at the height of its power in the mid-nineteenth century was not asuperpower in the sense that the United States is today. It istrue that the British fleetwas by far the largest in the world but it is only through the introduction of aircraftcarriers that naval forces have gained real effectiveness and capability for foreigninterventions.

108These treaties were unequal in the sense that they preventedJapan from levying more than token duties on foreignimports thus depriving the state of resources and subjecting the young industries to unfair competition.

109By this term we mean countries which rely on the United Statesfor their defense. Ever since 1945 it has beena permanent feature of US foreign policy to prevent its allies to develop nuclear weapons. It is clear that countries likeAustralia, Canada, Italy, South Korea or Turkey would have the technical capability to develop nuclear weapons (Germanyor Japan are different cases because their constitutions prevents them from doing so).

126 References

References

AGEE (P.) 1975:Inside the Company. CIA diary.Penguin Books. Harmondsworth(England)[French tranlation under the title: “Journal d’un agent secret. Dix ans dans la CIA” (Seuil 1976).]

AMARAL (L.A.N.), BULDYREV (S.V.), HAVLIN (S.), LESHHORN (H.), MAASS(P.), SALINGER (M.A.), STANLEY (H.E.), STANLEY (M.H.R.) 1997: Scalingbehavior in economics. I. Empirical results for company growth. Journal dePhysique I France 7,621-634.

ARENSON (K.W.) 1979: Worries of mortgage trading. Self-regulation urgencygrows.New York Times 7 November 1979 p. D1 and D17.[A recapitulation entitled “How mortgage-backed securities work” signals two possible problems: (i) Mort-

gage bankers contract with Wall Street investment firms to sell them a pool of mortgages in 4 months. If

for some reason activity slows down in the housing market they may not be able to supply the planned

mortgages. To make sure that enough mortgages are sold to house buyers it is tempting to soften standard

requirements (i.e. no downpayment or no-documentation loans) (ii) There is a similar problem at the other

end in the sense that no down payments are required for the investors (insurance companies, credit unions)

who buy mortgage-backed securities. If for some reason theyslow their purchases Wall Street investment

firms will not be able to sell their packages and will incur biglosses.]

BAK (P.) 1996:How nature works: the science of self-organized criticality. Springer-Copernicus. New York.

BEER (S.) 2003: “Bound” to cooperate. Austria’s little-known intelligence commu-nity since 1945. The Journal of Intelligence History 3,1,19-31.

BERG (E.N.) 1984:Rise of a national mortgage market. Trading home loans drawsbillions in new funds. Uniform [interest] rates emerge.New York Times 22 Jan-uary 1984, Section 3 (Business).[The article shows that in 1983 the secondary mortgage market(through which mortgages are resold as

securities) was already well developed: the percentage of new and old mortgages resold as securities repre-

sented 60% of new mortgage loans.]

BLECK (M.E.) [no data]: Starship history. (8 pages)

References 127

[Available on the Internet.]

BOUCHAUD (J.-P.), POTTERS (M.) 2000:Theory of financial risks.CambridgeUniversity Press. Cambridge (to appear).

BRYCE (R.) 2002: Pipe dreams. Greed, ego and the death of Enron. Public Affairs.New York.

CALOMIRIS (C.W.), GORTON (G.) 1991: The origins of banking panics: models,facts and bank regulation. in Financial markets and financial crises, R.G. Hubbarded. University of Chicago Press. Chicago.

COCKETT (R.) 1994:Thinking the unthinkable. Think tanks and the economiccounter-revolution of 1931–1983.Harper Collins. London.

COHEN (R.) 2000: Who really brought down Milosevic?New York Times 26November 2000.

CONAN DOYLE (A.) 1914:The valley of fear.A.L. Burt. New York.

CONLISK (J.) 1989: Three variants on the Allais example. American EconomicReview 79,3,392-407.

DEATON (A.), LAROQUE (G.) 1992: On the behavior of commodityprices. Re-view of Economic Studies 59,1-23.

DEMORY (J.-C.) 1995:Georges Bidault 1899-1983.Julliard. Paris.

FARMER (J.D.) 2000: Market force, ecology and evolution. Journal of EconomicBehavior and Organization. (to appear).

GRANGER (C.W.J.) 1991: Reducing self-interest and improving the relevance ofeconomic research. Paper presented at the 9th International Congress of Logic,Methodology and Philosophy of Science. Uppsala (Sweden, August 1991).

HARI (J.) 2009: The dark side of Dubai. The Independent 7 April 2009.[Available online on the website of the newspaper.]

HATTON (T.J.), WILLIAMSON (J.G.) 1998:The age of mass migration: causesand economic impact.Oxford University Press. New York.

Herman (E.S.), Chomsky (N.) 1988: Manufacturing consent. The political economyof the mass media. Pantheon Books. New York.[A French translation was published under the title: “La manufacture de l’opinion publique”. The books

convincingly proves that the American medias reflect the positions of the Department of State. Such a

demonstration is very easy to make. As a matter of fact, is it not fairly obvious that a similar claim can

be made for the medias of all industrialized countries? For instance, the “Times” or the “Independent”

certainly reflect the positions of the Foreign Office especially on issues that really matter for Britain.

A more unexpected observation is that in many countries the medias endorse the views of theUS Depart-

ment of Stateexcept when they run directly against their own national interest. Thus, in 1957 the French

medias while subscribing to the anti-Communist stance of the State Department dissented on the the Alge-

128 References

rian problem.]

JEGO (C.), ROEHNER (B.M.) 2006: White flight or flight from poverty. Journal ofEconomic Interaction and Coordination 1,75-87.

JOHANSEN (A.), SORNETTE (D.) 2000: The NASDAQ crash of April2000:yet another example of log-periodicity in a speculative bubble ending in a crash.Cond-mat/0004263.

KARPOFF (J.M.) 1987: The relation between price changes andtrading volume: asurvey. Journal of Financial and Quantitative Analysis 22,1, 109-126.

KELLY(M.), O’GRADA (C.) 1999: Market contagion. Evidence from the panics of1854 and 1857. Workpaper. Centre for Economic Research, Dublin. To appear inthe American Economic Review.

KRUGMAN (P.) 1995: Dutch tulips and emerging markets. Foreign Affairs 74,4(Jul/Aug), 28-44.

KRUGMAN (P.) 1998: Asia: What went wrong. Fortune 137,4 (Mar2), 32-34.

KURIAN (G.J.) 1994: Datapedia of the United States.Bernam Press. Lanham(MD).

LIESNER (T.) ed. 1989:One hundred years of economic statistics. United King-dom, United States of America, Australia, Canada, France, Germany, Japan,Sweden.Facts on File. New York.

LUX (T.) 1995: Herd behavior, bubbles and crashes. The Economic Journal 105,881-896.

LATTIMORE (O.) 1944: New Road to Asia. The National Geographic Magazine,Dec. 1944, p. 641-676.

LOCKWOOD (B.), MENDENHALL (H.H.) 1989: Operation Greylord: BroctonLockwood’s Story. Southern Illinois Univ Press, Carbondale [This is a narrativeof widespread bribery of judges; there were about 70 convictions in that case., butthe undercover lawyer who reported the corruption was unable to remain in thearea practicing law.]

LONGMATE (N.) 1974: The workhouse. Temple Smith, London.[According to testimonies cited in this book, workhouses inspired a real terror to poor people. They were

developed in their modern form following the law of 1834. A similar institution was introduced in Ireland

by the “Irish Poor Law” of 1838. It did not prevent thousands of Irish people from dying of starvation in

the mid-nineteenth century.]

LUX (T.), MARCHESE (M.) 1999: Scaling and criticality in a stochastic multi-agentmodel of a financial market. Nature 397,498-500.

MACAULAY (F.R.) 1938: The movements of interest rates, bond yields and stockprices in the United States since 1856.National Bureau of Economic Research.

References 129

New York.

MANDELBROT (B.B.) 1997: Fractals and scaling in finance: discontinuity, con-centration, risks.Springer-Verlag. New York.

MANTEGNA (R.N.) 1991: Levy walks and enhanced diffusion in Milan stockexchange. Physica A 179,232-242.

MANTEGNA (R.N.) 1999: Hierarchical structure in financial markets. EuropeanPhysical Journal B 11,1,193-197.

MANTEGNA (R.N.), STANLEY (H.E.) 1995: Scaling behavior in the dynamics ofan economic index. Nature 376, 6 July, 46-49.

MANTEGNA (R.N.), STANLEY (H.E.) 1999: An introduction to econophysics.Correlation and complexity in finance.Cambridge University Press. Cambridge.

MASLOV (S.), ROEHNER (B.M.) 2003: Does the price multipliereffect also holdfor stocks? International Journal of Modern Physics C 14, 10, 1439-1451.

MATUSOW (H.) 1955:False witness.Cameron and Kahn, New York.

MITCHELL (B.R.) 1978: European historical statistics 1750-1970.Macmillan.London.

MITCHELL (B.R.) 1982: International historical statistics: Africa and Asia.NewYork University Press. New York.

MITCHELL (B.R.) 1983: International historical statistics: the Americas and Aus-tralasia.Macmillan. London.

MONTROLL (E.W.), BADGER (W.W.) 1974:Introduction to quantitative aspectsof social phenomena.Gordon and Breach. New York.

NASH (V.) 1900:The Great Famine.Longman, Green and Company. London.[The title refers to the famine in India in 1900. It was one among several famines that occurred in India in

the late 19th century and the first half of the 20th century (the last one was in 1942-1943). The famine of

1900 took about 1.25 million lives in British districts. Forthe whole of India the estimated death toll was

3 million. Relief was provided on the workhouse model in use in England and Ireland, which means that

Indian people had to break stones in order to get food.]

NEARING (S.), FREEMAN (J.) 1926:Dollar diplomacy. A study in AmericanImperialism.George Allen and Unwin. London.

O’GRADA (C.),WHITE (E.N.) 1999: Who panics during panics? Evidence from anineteenth century savings bank. NBER Working Paper No 8851.

O’ROURKE (K.H.), WILLIAMSON (J.G.) 1999:Globalization and history. theevolution of a nineteenth-century Atlantic economy.MIT Press. Cambridge.

OLIVEIRA (S.M. de), OLIVEIRA (P.M.C. de), STAUFFER (D.) 1999: Evolution,money, wars and computers.Teubner. Stuttgart.

130 References

PARTNOY (F.) 2003:Infectious greed. How deceit and risk corrupted the financialmarkets.Profile Books. London.

PERSSON (K.G.) 1993: On corn,Turgot and elasticities: the case of deregulation ofgrain markets in mid-eighteenth century France. Scandinavian Economic HistoryReview 1,37-50.

Phillips (K.) 2002:Wealth and democracy. A political history of the American rich.Broadway Books. New York.

PUTNAM (R.D.) 2000: Bowling Alone: The Collapse and Revival of AmericanCommunity.Simon & Schuster. New York.

QUID 1997: [An annual compilation of statistical data]edited by D. Fremy and M. Fremy.Robert Laffont. Paris.

RICHARDS (L.) 2008:Union-free America: workers and anti-union culture.Uni-versity of Illinois Press. Urbana (Illinois).RICHARDS (L.) 2009: Richards on Witwer. Book review published on the websiteEH.NET (economic history) in June 2009.

ROEHNER (B.M.) 1995:Theory of markets. Trade and space-time patterns of pricefluctuations. A study in analytical economics.Springer-Verlag. Berlin.

ROEHNER (B.M.) 1997a: The comparative way in economics: a reappraisal. EconomieAppliquee 50,4,7-32.

ROEHNER (B.M.) 1999: Spatial analysis of real estate price bubbles: Paris 1984-1993. Regional Science and Urban Economics 29,73-88.

ROEHNER (B.M.) 2006: Real estate price peaks. A comparativeoverview. Evolu-tionary and Institutional Economic Review 2,2,167-182.

ROEHNER (B.M.) 2007:Driving forces in physical, biological, and socio-economicphenomena. A network science investigation of social bondsand interactions.Cambridge University Press, Cambridge (UK).

ROEHNER (B.M.) 2008 a:Relations between Allied forces and the population ofJapan.Working Report, LPTHE, University of Paris 6.[The book is available in university libraries in China, France, Japan, the UK and the US. It can also be

downloaded from the author’s website at the following address:

http://www.lpthe.jussieu.fr/∼roehner/occupation.html]

ROEHNER (B.M.) 2008 b: Econophysics: challenges and promises. An observation-based approach. Evolutionary and Institutional Economic Review 4,2,251-266.

ROEHNER (B.M.) 2009:Interaction maximization as an evolution principle for so-cial systems.Lectures given in China and Japan in 2008. Working Report, Insti-tute for Theoretical and High Energy Physics (LPTHE), University of Paris 6.[Available at: http://www.lpthe.jussieu.fr/∼roehner/interac.html]

References 131

ROEHNER (B.M.), SORNETTE (D.) 1998: The sharp peak – flat trough pattern andcritical speculation. The European Physical Journal B 4,387-399.

ROEHNER (B.M.), SORNETTE (D.) 1999: Analysis of the phenomenon of specu-lative trading in one of its basic manifestations: postage stamp bubbles. Interna-tional Journal of Modern Physics C 10,6,1099-1116.

ROEHNER (B.M.), SORNETTE (D.) 2000: “Thermometers” of speculative frenzy.The European Physical Journal B 16,729-739.

ROGALSKI (R.J.) 1978: The dependence of prices and volume. Review of Eco-nomics and Statistics 60,2,268-174.

SHILLER (R.J.) 1990: Speculative prices and popular models. A symposia on bub-bles: third contribution. Journal of Economic Perspectives 4,2,13-101

SNOOKS (G.D.) 1993:Economics without time: a science blind to the forces ofhistorical change.Macmillan. Basingstoke (UK).

SNOOKS (G.D.) 1998:Longrun dynamics: a general economic and political theory.Macmillan. Basingstoke (UK).

SORNETTE (D.) 2000: Stock market speculation. Spontaneoussymmetry breakingin economic valuation. Physica A 284,1-4,355-375.

SORNETTE (D.), JOHANSEN (A.), BOUCHAUD (J.-P.) 1996: Stockmarket crashes,precursors and replicas. Journal de Physique I France 6,167-175.

STAUFFER (D.), SORNETTE (D.) 1999: Self-organized percolation model forstock market fluctuations. Physica A 271,496-506.

STOCKMAN (D.) 1986:The triumph of politics: why the Reagan revolution failed.G.K. Hall. Boston.[David Stockman argues that the failure came from the fact that spending (and in particular social spending)

was not reduced in proportion to tax reduction which createda huge public deficit. He acknowledges that

he was somewhat naive and failed to understand that the wholescheme was in fact a disguised way for

cutting tax rates on high income brackets. This explains thetitle of a long article “The education of David

Stockman” which appeared in the December 1981 issue of the magazine “The Atlantic Monthly”.]

TAUCHEN (G.E.), PITTS (M.) 1983: The price variability-volume relationship onspeculative markets. Econometrica 51,2,485-505.

WALLACE (H.A.), STEIGER (A.J.) 1946: Soviet Asia mission. Reynal and Hitch-cock. New York.

WITWER (D.) 2009:Shadow of the racketeer: scandal in organized labor.Univer-sity of Illinois Press. Urbana (Illinois).

WOLFSKILL (G.) 1962: The revolt of the Conservatives. A history of the AmericanLiberty League. Greenwood Press, Westport.

ZHANG (Y.-C.) 1998: Evolving models of financial markets. Europhysics. News

132 References

29,51.

NEOLIBERALISM, SOCIAL FRAGMENTATION AND WORLDWIDE DEPRESSIONroehner/triumph.pdf · Ami, entends-tu...

Documents

Transcript of NEOLIBERALISM, SOCIAL FRAGMENTATION AND WORLDWIDE DEPRESSIONroehner/triumph.pdf · Ami, entends-tu...